Early Indications October 2012: The State of Mobile Payment (U.S. market)

With so many powerful players getting involved, some more standing on the sidelines, and a few wild-card startups, the smartphone-as-wallet market is truly compelling business theater. Far more is unknown than certain right now, so rather than speculate, I'll lay out some of the knowns then concentrate on the relevant questions that must be sorted out.

What we know

Multiple projections suggest that consumers will use smartphones as wallets more and more frequently in the next five years. In addition, Japan and Kenya, among other markets, provide useful precedents for mobile payment behavior. Even so, U.S. adoption is likely to be unique for a variety of reasons.

Smartphones are being adopted extremely rapidly, and they possess some important characteristics that make them well suited to be used in commercial transactions:

     *They can be configured with extra-secure memory and other hardware features to increase confidence of consumers whose money and/or information might be lost.

     *They have cameras that can serve as scanners of bar codes and other physical hyperlinks.

     *The cameras and displays can also facilitate biometric identification in the form of face recognition, either algorithmic or by humans.

     *They can be configured with a radio devoted to secure payment at close range.

     *They are pretty reliably carried on one's person and thus can replicate some roles of a wallet.

Who has entered the arena

Competition in mobile payment is already intense. As the list of active players illustrates, however, different entrants may have differing strategic endgames. To say that the U.S. market does not need smartphone-based wallets because of the mature credit-card reader infrastructure may be true, but does not negate the potential impact of couponing, loyalty cards, location-sensitive promotions, and ad placement: smartphones in the U.S. market may never get the functionality of a Safaricom M-pesa account in Kenya, but plenty of other interesting scenarios are nonetheless possible.

Mobile carriers: Sprint is the only carrier to support Google Wallet. AT&T, T-Mobile, and Verizon comprise the ISIS consortium. Isis is running trials.

Credit cards: Visa has PayWave while MasterCard launched PayPass. For its part, American Express has Serve, which is pre-paid rather than a credit service like the other two. Discover has announced an alliance with PayPal (see below).

Merchants: Announced in August, the Merchant Customer Exchange is led by Best Buy, CVS, Shell, Target, and Wal-Mart among others.

Google: Google Wallet currently runs only on a few Sprint phones. A sticker with an embedded chip can bring smart wallet features to Android phones that do not meet carrier standards for NFC (near field communications) in the hardware layer, but these do not appear to be widely available and/or adopted.

Square: The mobile payment startup founded by Jack Dorsey of Twitter fame (he works 8 hours a day at each company) does not require NFC chips and interfaces neatly with the company's merchant solutions which attempt to disrupt the Verisign-dominated credit card terminal market.

PayPal + Discover card: PayPal announced the credit card partnership in August and expects to process $10 billion in mobile phone transactions this year. This appears to be the first mover with competitive advantage, in the early going.

It is difficult to believe that Amazon and Apple (which currently supports non-payment wallet functionality) will stay out of this market.

The questions:

1) Hardware vs software

While the Google Wallet and Isis solutions rely on a hardware component -- the NFC chip in the phone and accompanying reader at point of sale -- PayPal and Square employ more of a software play. By way of comparison, in Japan, the prepaid cards used to pay train fares use contactless hardware, while in Kenya the popular M-pesa service runs on SMS.

In the U.S., wireless carriers control access to the secure memory area that is required for Google Wallet, and that access has not been widely agreed to thus far. Alternatively, cloud-based solutions move consumer information off of the handset, obviating the need for carrier-controlled access to the so-called secure element. In addition, they do not require new point-of-sale infrastructure at the merchant, as in the case of NFC. In the long run, the Isis solution appears to be the most likely NFC-based scenario, if any take hold, while Google recently announced it is moving to a cloud approach possibly in parallel; the fate of the hardware-resident Google Wallet is unclear. Apple has yet to include NFC chips on iPhones.

2) Payment vs promotion

Even though the rubric is to speak of mobile payment, because the US has such a broad credit card reader network, the promotional aspects of mobile wallets will be a critical factor for user uptake. This opens the possibility of an arbitrage app, to sort through a consumer's competing offers, point systems, privacy compromises, and time constraints. Do I buy gas at Shell on MCX or at Sunoco with Isis today? What about next week's offers? How close am I to Gold standing in a given reward program? Who do I trust to maintain multiple account information? Apple has Passbook, an iOS app for ticketing and loyalty but not (as of yet) payment. Google Wallet does many of the same things.

3) Multi-home vs single-home

These terms derive from the economic literature on platforms. Many "multihoming" people carry both Mastercard and Visa. Some electronic game titles are available for both Xbox and Playstation. At the same time, very few people maintain both Facebook and MySpace identities, or checkbooks from consumer accounts at two different banks. Right now Visa in particular works with many other digital wallets. The homing question will be interesting to follow: will consumers maintain simultaneous Starbucks, Visa, Isis, and MCX accounts, their high degree of overlap notwithstanding? Will reward systems interoperate, or will they be more like frequent flier miles, which are expensive to convert across carriers? In short, will there be a few huge winners or many players of varying scales?

4) Sweet spot (transaction amount)

In the U.S., credit cards are fast and easy, but not widely used for purchases under $10 or so. Retail foodservice establishments, meanwhile, process millions of transactions a day under $25, and the experience of making change is slow, error-ridden, and inconvenient. Given the power of the U.S. penny lobby, we still use the copper coins even though it likely costs more to spend the extra time for a McDonalds clerk to make exact change for 47 cents rather than 45 or 50. Thus a wave-and-go payment solution for fast food and other outlets (where customer throughput is a key profitability metric) makes a lot of sense. Burger King does not really "average" 500 (or whatever) customers per hour, but instead deals with large spikes in demand at lunch time, when big events let out, and so on. Decreasing transaction time will pay off quickly for these merchants, and if they do not need to invest in new reader infrastructure, so much the better. Thus if mobile payment can fill in a niche at the low end of the market rather than compete with plastic cards, it could expand rather than only cannibalize the existing market.

5) Pre-pay/credit/mobile bill

What will be the preferred source of funds in the digital wallet(s)? Visa and Mastercard can easily extend their credit model to new payment modalities. Pre-paid plans work well for mobile carriers and do not require credit checks and other risks. Wireless carriers already have credit ratings, home addresses, and locality information for their customers. Each of three models could catch on for some population (mass transit passes for school kids in cities, meal plans for college campuses, gift cards for retail shoppers, and the list goes on); it may not be a winner-take-all scenario.

6) Global vs national

A credit card can currently be used nearly anywhere. If NFC or other hardware solutions prove popular in a given geography, how widely will any particular technology take hold? Is a variety of local technologies the long-term scenario? Most likely not.

7) Killer app(s)

To unseat the incumbents (cash money and plastic money), mobile money will need to be secure, easy, widely accepted, and deliver additional benefits. In Kenya, one killer app was processing expatriate payments from abroad without a trip to Western Union. In Japan, train fares at rush hour are processed much faster with mobile money than with other forms, thus easing workflow. In the US, mass transit is not widely used, but coupons and loyalty programs are. Somewhat weirdly, many demo videos for various smart wallet solutions all focus on one merchant scenario: coffee shops. This segment doesn't feel sufficiently substantial to stand as the cornerstone of a new shopping paradigm, however.

The corporate heft of the various competitors suggests a sumo-like contest to win consumer affection. What's the payoff? Consumers love discounts, and smartphones can geoposition those offers to current place and time. On the platform owner's end of the transaction, meanwhile, the prospect of terabytes of consumer data piling up from offers at various price levels or under different conditions (25% off versus "buy three get 1 free") with the location tracking aspect presents a "big data" scenario of staggering proportions. It's clear to see the prize -- consumer data at unprecedented scale -- but the value proposition to wallet-carriers remains unclear.

8) Wild cards

What happens when some segment of the infrastructure (power, wireless data, terminals) goes down?

Who pays to retrofit millions of vending machines, arcade games, and other devices that currently take cash and coins? What about merchant terminals?

What happens when data is compromised?

What do I do when my phone/wallet is lost or stolen?

Who bears what risk?

What happens when my battery dies?

What happens with competing standards or entities? Can merchants "jam" competing offers? If Shell sees I'm gassing up at Citgo, do I get coupons? Cut off? Slower service next time I pull into Shell?

What if public backlash at RFID extends to NFC, an RFID variant?

Will anyone understand the privacy agreements they sign?