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PayPal: One Tough Nut for Google

By Robert D. Hof Another day, another new Google (GOOG) service that threatens to torpedo yet another outfit's business model. According to recent reports, the Web search giant plans this year to introduce an online payment system in competition with eBay's (EBAY) PayPal. Neither Google nor PayPal will comment, but some eBay merchants and service providers say they have good reason to believe Google will make its move before yearend.If so, the debut will be a rude awakening -- for Google.

Fact is, even before eBay bought it in 2002, PayPal had carved out a dominant position as the online payment service of choice on -- so much so that eBay shuttered its own payment service.

"LATE IN THE GAME." Even Citibank (C) and Yahoo! (YHOO) threw in the towel on online payments. And now, PayPal is rapidly expanding beyond eBay's borders to independent sites such as Apple's (AAPL) iTunes Music Store, (OSTK), and Napster (NAPS) (see BW, 5/23/05, "PayPal Spreads Its Wings").

So Google would have to offer something unique or face a punishing fight against an established, fast-growing leader with 72 million accounts worldwide and payment volume that's growing 44% annually. "Google's my best friend," says Todd Rath, chief operating officer at Norfolk (Va.)-based, a closeout e-tailer and eBay merchant that also buys keyword advertising on the search site. "But it's kind of late in the game. You've got to have traction right out of the gate, and Google doesn't have that."

That's not to say Google couldn't change the rules of the game with a new offering, which some merchants say will be called Google Wallet. Indeed, it possesses some key ingredients to get started fast.

INVALUABLE DATA. For starters, Google already has paying relationships with millions of merchants that buy ads or run Google ads on their sites, including 60 of the top 100 e-commerce sites, notes Dan Schatt, an analyst with the financial-services consulting and research firm Celent. Coupled with another long-rumored Google service -- Google Listings, an online classified-ad service -- it's conceivable that Google Wallet might indeed provide a potent alternative to eBay.

Also, many of Google's 80 million unique monthly visitors are buyers already searching for products on Google. An integrated payment system might make it easier for those shoppers to purchase products quickly -- perhaps with a single click on a "pay" button on Google's browser toolbar.

What's more, Google would then know what products are actually selling, vs. those that simply draw clicks. That would represent enormously valuable data for merchants. "Some merchants are very excited about Google Wallet," says Scot Wingo, chief executive of the e-commerce services company ChannelAdvisor.

RIGHT TIME, RIGHT PLACE. Even a rudimentary Google payment system would up the ante for PayPal, which has managed to create an entirely new alternative to checks, money orders, and credit cards for online purchases. It also would threaten one of the strongest growth drivers for eBay, whose revenues from its core U.S. auction sites have slowed considerably, to an all-time low of just 19% in the first quarter. eBay CEO Meg Whitman has made expanding PayPal one of eBay's biggest priorities.

No surprise, then, that eBay's stock, already down 33% since the start of the year, fell as much as 3% more on June 20 before recovering slightly and closing down 2%, at $37.24. "This is the biggest challenge eBay has faced since it bought PayPal," says former PayPal marketing executive Eric Jackson, author of the 2004 book The PayPal Wars.

Nonetheless, Google will have a very tough time taking on PayPal. For one thing, PayPal got lucky by latching onto eBay and riding that e-commerce rocket past every other competitor. Google doesn't have nearly the same base of users specifically primed to buy something. So it remains unclear whether its offering can attain the same kind of "viral" growth, says analyst Scott Devitt of Legg Mason Wood Walker.

HUGE HEAD START. Moreover, with eBay, PayPal has spent tens of millions of dollars a year to build a reliable system, navigate regulatory hurdles state-by-state, and reduce the fraud that nearly did in the company a few years ago. Indeed, PayPal has spent years honing antifraud technology and techniques. Merchant losses from fraud on PayPal are now only 0.17% of revenues, vs. 1.8% for online merchants that take credit cards (see BW Online, "The Truth About Credit-Card Fraud"). "There are criminals who would love to go to a new service that might not be as secure," notes Jackson.

And now, PayPal is turning its considerable momentum toward attracting independent merchants to use its service. Already, off-eBay merchants account for 29% of PayPal's total payment volume, or about $1.8 billion in the first quarter.

The bottom line: PayPal has a head start that could cost Google a few billion pretty pennies to overcome. "I don't see that Google could do better" than PayPal, says Devitt, who adds: "The online payment race has been won."

HITS AND MISSES. At the same time, Google has yet to demonstrate that it can make a business outside of mainstream search and associated advertising, which last year accounted for 99% of its $3.2 billion in sales. Its Gmail service has seen some acceptance, but its Froogle comparison-shopping site and Orkut social-networking service haven't picked up much traction.

So far, it hasn't paid to underestimate Google. But for all the potential firepower the search giant brings to this battle, it's still PayPal's to lose. Don't look for that to happen anytime soon. Hof is BusinessWeek's Silicon Valley bureau chief

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