The War on Fraud
Cybercriminals are working overtime getting ready for the busy Christmas season, when online shopping is at its peak. But this year, Internet merchants stand a better chance of weeding out fraudulent buyers thanks to technology developed by a startup called Fraud Sciences. Even better, hundreds of online retailers in the U.S. and elsewhere already using the startup's screening system will be able to accept with confidence orders they might previously have rejected as suspicious—a boon to their top line.
For Tel Aviv-based Fraud Sciences, the opportunity looks limitless. Last year, online purchases charged to stolen or illegitimate credit cards cost merchants an estimated $3 billion in the U.S. alone. Many believe the actual cost is much higher. Fraud Sciences' proprietary technology tackles the problem by helping merchants verify the identity of buyers. That, in turn, makes merchants more willing to accept orders, especially from overseas.
Security for Smaller E-Tailers
Addressing fraud is a problem of growing urgency. A recent survey by CyberSource (CYBS), a provider of payment processing and security services for online retailers, estimated that 1.4% of all sales last year were conducted by buyers with fake identities or credit cards that turned out to be fraudulent. The most common scam is buying products using credit-card numbers stolen offline or through e-mail scams.
"Attacks are definitely on the increase, with particular focus on electronics, jewelry, and any product that can easily be turned into money," says Avivah Litan, a security analyst at research house Gartner (IT). Litan says that until now, major e-tailers such as Amazon.com (AMZN) have had to build in-house solutions because, "there is no one-stop shop to meet all their needs to counter fraud."
Fraud Sciences could help fill the gap, especially for smaller vendors who can't afford to develop their own technology. Founded four years ago by two former members of the Israel Defense Force intelligence unit, the company has raised $15 million in funding from Israel's BRM Capital Advisors and Redpoint Ventures in Menlo Park, Calif. Last year, California-born serial entrepreneur Gadi Maier joined as president and chief executive officer to bring Fraud Sciences' technology to market. Though Maier won't elaborate, he says the privately held company is growing at 30% per month, and that revenues this year should be "several million" dollars.
Scanning the Internet for Tracks
What sets Fraud Sciences apart? Today, credit-card companies, eBay's (EBAY) PayPal subsidiary, and others detect fraudulent transactions using a combination of techniques. To establish that the cardholder is legitimate, they may ask for the mailing address where bills are sent, the three-digit security code on the back of the card, passwords, or some combination of these. They also employ sophisticated pattern matching to spot suspicious behavior: If there's a charge, say, at a Home Depot (HD) in New York in the morning and several hours later at a fancy jewelry store in Beverly Hills, that's likely to raise alerts. If a modest spender suddenly shells out thousands in a single purchase, that too is likely to get flagged.
Fraud Sciences uses these standard behavioral and pattern-recognition techniques but also adds another element that the company calls "identity proofing." Maier refuses to discuss how the top-secret technology works so as not to tip off fraudsters, but says it involves establishing whether the buyer is a real person—and whether he is the person he claims to be—by analyzing digital footprints scattered around the Internet. The company also has effective technology for detecting whether communication originates from a compromised computer, a common technique used by fraudsters to disguise their location or identity.
"All legitimate people these days leave traces in cyberspace that we can analyze using legitimate and public information," Maier says. Fraudsters, by comparison, "by their nature do not really exist and do not leave genuine evidence." Fraud Sciences scans hundreds of data sources to establish an accurate picture of nearly every buyer in the world. While this could raise some privacy concerns, Maier insists the profiles are drawn entirely from public information and that Fraud Sciences doesn't invade buyers' computers or share its data with any other companies.
Israel's Intelligence Entrepreneurs
The technology was developed over a three-year period by the startup's two founders, Saar Wilf and Shvat Shaked. The two friends met while serving in the Israel Defense Force's intelligence unit, which is responsible for gathering and deciphering enemy intelligence. The unit has been the breeding ground for dozens of Israeli entrepreneurs who later founded Internet security companies, including Gil Shwed of Check Point Software Technologies (CHKP).
Fraud Sciences began offering its service in April, 2006, and says it has already landed hundreds of clients. "In the first nine months of operation we approved $45 million in legitimate revenues that in the past would have been thrown out," says Maier, who splits his time between Tel Aviv and Palo Alto, Calif. The company claims its technology is 99.9% accurate—and to back that up, guarantees full payment to the merchant if it's wrong. That's especially helpful for online merchants, who typically reject about 4% of orders, even though three-quarters of them turn out to be legitimate.
Among Fraud Sciences customers are jewelry seller Mondera.com, computer equipment distributor MacSales.com, and cell-phone vendor Cellhut.com. Many are small to midsize online merchants who faced increasing difficulties dealing with fraud. "We've been able to double revenue to $1 million a month in the past year by accepting business from abroad and a large percentage of transactions that we rejected in the past," says Joseph Levy, founder and CEO of Watchery.com, a site that sells high-end watches. Before using the service, the New York-based e-tailer had a full-time person checking for fraud. Levy adds that since working with Fraud Sciences the site has had only one case of fraud that the Israeli firm did not catch.
Eye on Financial Services
Staying ahead of criminals is a full-time job for Fraud Sciences. "This is war," Maier says. The company maintains a high-security facility in Tel Aviv, staffed round the clock by four or five trained analysts, many of whom are straight out of IDF intelligence units. Hundreds of thousands of dollars in questionable transactions pass daily through the operation, most of them approved or rejected automatically so that the speed of sales isn't slowed. Only a small percentage of cases are manually reviewed. Just across the hall is another high-security room where computer experts spend their time keeping one step ahead of the fraudsters by analyzing suspect traffic patterns and looking for the evolution of new fraud techniques.
For Maier, a former rocket scientist, running a startup is familiar turf. He was the CEO of Memco Software, which was acquired by Computer Associates (CA) in 1997; one of the founders of GetThere, an online corporate travel site sold to Sabre in 2000; and the founder of Currenex, an electronic foreign currency trading network bought by State Street (STT) in January, 2007. But Fraud Sciences could be the biggest one yet. Maier aims eventually to move beyond e-tailing into fraud prevention for the potentially even larger markets of online banking and financial services. Cybercriminals, watch out!