Electronic Commerce Ninth Edition

Electronic CommerceNinth Edition Chapter 11Payment Systems for Electronic Commerce

Learning Objectives In this chapter, you will learn about: The basic functions of online payment systems The use of payment cards in electronic commerce The history and future of electronic cash How electronic wallets work The use of stored-value cards in electronic commerce Internet technologies and the banking industry Electronic Commerce, Ninth Edition Electronic Commerce, Ninth Edition 2

Online Payment Basics Online payment systems Still evolving Competition for dominance Cheaper than mailing paper checks Convenient for customers Save companies money Costs per bill Billing by mail: between $1.00 and $1.50 Internet billing and payment costs: 50 cents Significant environmental impact Electronic Commerce, Ninth Edition

Online Payment Basics (cont’d.) Four ways to purchase items (traditional and electronic) Cash, checks, credit cards, debit cards 90% of all United States consumer payments Electronic transfer: small but growing segment Popular example: automated payments Credit cards Worldwide: 90% of online payments United States: 97% of online payments Noncard payment alternatives (PayPal) becoming increasingly popular Electronic Commerce, Ninth Edition

FIGURE 11-1 Forecasted forms of payment for U.S. consumer transactions Electronic Commerce, Ninth Edition

Online Payment Basics (cont’d.) Scrip Digital cash minted by a company Cannot be exchanged for cash Exchanged for goods or services Like a gift certificate: good at more than one store Current scrip offerings (eScrip) Focus: not-for-profit fundraising market Popular scrip use Has not materialized Not much popular Electronic Commerce, Ninth Edition

Online Payment Basics (cont’d.) • Online business payment requirements • Safe, convenient, widely accepted • Companies sell payment processing package service Electronic Commerce, Ninth Edition 7

FIGURE 11-2 Payment processing service offerings of Payment Online Electronic Commerce, Ninth Edition

Payment Cards Payment card Describes all types of plastic cards used to make purchases Categories: credit cards, debit cards, charge cards Credit card (Visa, MasterCard) Spending limit based on user’s credit history Pay off entire credit card balance May pay minimum amount Card issuers charge unpaid balance interest Widely accepted Consumer protection: 30-day dispute period Electronic Commerce, Ninth Edition

Payment Cards (cont’d.) Credit card (cont’d.) Card not present transactions Cardholder not present during transaction Extra degree of risk for merchant and bank Debit card Removes sales amount from cardholder’s bank account Transfers sales amount to seller’s bank account Issued by cardholder’s bank Carries major credit card issuer name Electronic Commerce, Ninth Edition

Payment Cards (cont’d.) Charge card (American Express) No spending limit Entire amount due at end of billing period No line of credit or interest charges Examples: department store, oil company cards Retailers may offer their own charge cards Electronic Commerce, Ninth Edition

Payment Cards (cont’d.) Single-use cards Cards with disposable numbers Addresses concern of giving online vendors payment card numbers Valid for one transaction only Designed to prevent unscrupulous vendor fraud Withdrawn from the market Problem: required different consumer behavior Electronic Commerce, Ninth Edition

Advantages and Disadvantages of Payment Cards Advantage for merchants Fraud protection Can authenticate and authorize purchases using a payment card processing network Advantage for U.S. consumers Liability of fraudulent card use: $50 Frequently waived if card stolen Greatest advantage Worldwide acceptance Currency conversion handled by card issuer Online  does not require any hardware or software Electronic Commerce, Ninth Edition

Advantages and Disadvantages of Payment Cards (cont’d.) Disadvantage for merchants Per-transaction fees, monthly processing fees Viewed as cost of doing business Goods and services prices: slightly higher Compared to environment free of payment cards Disadvantage for consumers Annual fee Provide built-in security for merchants Assurance of payments Card transaction steps transparent to consumers Several groups are involved.

Payment Acceptance and Processing Internet payment card process made easier Due to standards EMV standard Single standard handling payment card transactions Visa, MasterCard, MasterCard International United States online stores, mail order stores Must ship merchandise within 30 days of charging payment Significant violation penalties Charge account when shipped Electronic Commerce, Ninth Edition

Payment Acceptance and Processing (cont’d.) General steps in payment card transactions Merchant receives consumer’s payment card information Merchant authenticates payment card to ensure validity Merchant checks with payment card issuer to ensure credit or funds available Puts a hold on credit line or funds needed to cover the charge Settlement occurs (few days after purchase) Funds travel between banks Electronic Commerce, Ninth Edition

Payment Acceptance and Processing (cont’d.) Open and closed loop systems Closed loop systems Card issuer pays merchant directly Does not use intermediary American Express, Discover Card Open loop systems (three or more parties) Third party (intermediary bank) processes transaction Visa, MasterCard: not issued directly to consumers Credit card associations: operated by association member banks Customer issuing banks: banks issuing cards Electronic Commerce, Ninth Edition

Payment Acceptance and Processing (cont’d.) Merchant accounts Merchant bank (acquiring bank) Bank wanting to accept payment cards Merchant account required to process Internet transactions payment cards Obtaining account Merchant provides business information Bank assesses business type risk Bank assesses percentage of sales likely to be contested Electronic Commerce, Ninth Edition

Payment Acceptance and Processing (cont’d.) Merchant accounts (cont’d.) Chargeback process Cardholder successfully contests charge Merchant bank must retrieve money from merchant account Merchant may have to cover chargeback potential Problem facing online businesses: fraud 10 percent of all credit card transactions completed online Responsible for 70 percent of total dollar amount of credit card fraud Electronic Commerce, Ninth Edition

Payment Acceptance and Processing (cont’d.) • Merchant accounts (cont’d.) • Online transaction fraud increased steadily through 2009 • Fraud losses dropped 18 percent from 2008 to 2009 • Scoring services providing risk ratings for individual transactions in real time • Shipping only to card billing address • Requiring card verification numbers (CVNs) for card not present transactions • CVN • Three- or four-digit number printed on the credit card • Not encoded in the card’s magnetic strip Electronic Commerce, Ninth Edition 20

Payment Acceptance and Processing (cont’d.) Processing payment cards online Payment processing service providers Companies offering payment card processing Example: InternetSecure Supports Canadian and U.S. Visa and MasterCard payments Provides risk management and fraud detection Handles online merchants’ transactions Uses existing bank-approved payment card processing infrastructure, secure links, firewalls Notifies merchant of all approved orders and supplies buyer authorization codes Electronic Commerce, Ninth Edition

Payment Acceptance and Processing (cont’d.) Processing payment cards online (cont’d.) FirstData and Merchant Warehouse Provide credit card processing software and services Automated Clearing House (ACH) Network of banks connecting credit card processing software vendors and card authorization companies More information EPN, NACHA - The Electronic Payments Association, The Clearing House, U.S. Federal Reserve Bank’s Federal Reserve Financial Services site Electronic Commerce, Ninth Edition

FIGURE 11-3 Processing a payment card transaction Electronic Commerce, Ninth Edition

Payment Acceptance and Processing (cont’d.) Processing payment cards online (cont’d.) InfoSpace’s Authorize.Net Online, real-time payment card processing service Merchants link to system by inserting small HTML code block into transaction page Order encrypted, transferred to Authorize.Net server Server relays transaction to bank network Customers not aware of third-party supplier (usually) Electronic Commerce, Ninth Edition

Electronic Cash Electronic cash (e-cash, digital cash) Describes any value storage and exchange system created by private (nongovernmental) entity Does not use paper documents or coins Can serve as substitute for government-issued physical currency Readily exchanged for physical cash on demand Problems No standard among all electronic cash issuers Not universally accepted Electronic Commerce, Ninth Edition

Electronic Cash (cont’d.) • Recall from previous section: • Banks make money by charging merchants a credit card processing fee on each transaction • Fee ranges: one percent to four percent of the transaction value • Banks often impose a minimum fee • 20 cents or more per transaction • Banks charge electronic commerce sites • More than similar brick-and-mortar stores Electronic Commerce, Ninth Edition 26

Electronic Cash (cont’d.) Stores accepting credit cards may require: Minimum purchase amount of $10 or $15 Small purchases not profitable for merchants Bank credit card fees greater than profits Factors favoring electronic cash Potentially significant electronic cash market Internet small purchases (below $10) Most of world’s population does not have credit cards Idea of electronic cash refuses to die Electronic Commerce, Ninth Edition

Micropayments and Small Payments Micropayments Internet payments for items costing few cents to a dollar Micropayments barriers Not implemented very well on the Web yet Human psychology People prefer to buy small value items in fixed price chunks Example: mobile phone fixed monthly payment plans Electronic Commerce, Ninth Edition

Micropayments and Small Payments (cont’d.) Companies that have developed micropayment systems Millicent, DigiCash, Yaga, BitPass All failed No company gained broad acceptance of its system No company devoted solely to offering micropayment services Electronic Commerce, Ninth Edition

Micropayments and Small Payments (cont’d.) • Small payments • All payments of less than $10 • Being offered through mobile telephone carrier • Buyers make purchases using their mobile phones • Charges appear on monthly mobile phone bill • Bright future held back by mobile carriers’ substantial charges Electronic Commerce, Ninth Edition 30

Privacy and Security of Electronic Cash Electronic payment method concerns Privacy and security, independence, portability, convenience Privacy and security: most important to consumers Vulnerable transactions Electronic currency: copied, reused, forged Important characteristics of electronic cash Ability to spend only once Anonymous use Convenience Electronic Commerce, Ninth Edition

Advantages and Disadvantages of Electronic Cash Traditional brick-and-mortar billing methods Costly and inefficient Online stores have the same payment collection inefficiencies Online customers use credit cards to pay for purchases Online auction customers use conventional payment methods Checks, money orders Electronic Commerce, Ninth Edition

Advantages and Disadvantages of Electronic Cash (cont’d.) Electronic cash system Less popular than other payment methods Provides unique advantages and disadvantages Advantages of electronic cash transactions More efficient (less costly) Efficiency fosters more business (lower prices) Occurs on existing infrastructure (Internet) Does not require one party to obtain authorization Electronic Commerce, Ninth Edition

Advantages and Disadvantages of Electronic Cash (cont’d.) Disadvantages of electronic cash transactions No audit trail Money laundering Technique criminals use to convert money illegally obtained into spendable cash Purchase goods, services with ill-gotten electronic cash Goods sold for physical cash on open market Electronic cash has not yet become a global success Will require wide acceptance and solution to problem of multiple electronic cash standards Electronic Commerce, Ninth Edition

Advantages and Disadvantages of Electronic Cash (cont’d.) • Creating truly anonymous electronic cash • Bank issues electronic cash with embedded serial numbers • Bank digitally signs electronic cash while removing association of cash with particular customer Electronic Commerce, Ninth Edition 35

Holding Electronic Cash: Online and Offline Cash Online cash storage Consumer has no personal possession of electronic cash Trusted third party (online bank) involved in all transfers, holds consumers’ cash accounts Online system payment Merchants contact consumer’s bank Helps prevent fraud (confirm valid cash) Resembles process of checking with consumer’s bank to ensure valid credit card and matching name Electronic Commerce, Ninth Edition

Holding Electronic Cash: Online and Offline Cash (cont’d.) Offline cash storage Virtual equivalent of money kept in wallet Customer holds it No third party involved in transaction Protection against fraud concern Hardware or software safeguards needed Double-spending Spending electronic cash twice Submit same electronic currency to two different vendors Not enough time to prevent fraudulent act Electronic Commerce, Ninth Edition

Holding Electronic Cash: Online and Offline Cash (cont’d.) • Main deterrent to double-spending • Threat of detection and prosecution • Keys to creating tamperproof electronic cash traceable back to origins • Cryptographic algorithms • Two-part lock • Provides anonymous security • Signals an attempt to double-spend cash Electronic Commerce, Ninth Edition 38

Holding Electronic Cash: Online and Offline Cash (cont’d.) • When second transaction occurs • Complicated process reveals: • Attempted second use • Identity of original electronic cash holder • Electronic cash used correctly • Maintains user’s anonymity • Double-lock procedure • Protects anonymity of electronic cash users • Simultaneously provides built-in safeguards to prevent double-spending Electronic Commerce, Ninth Edition 39

FIGURE 11-4 Detecting double-spending of electronic cash Electronic Commerce, Ninth Edition 40

Holding Electronic Cash: Online and Offline Cash (cont’d.) • Double-spending • Neither detected nor prevented with truly anonymous electronic cash • Anonymous electronic cash • Cannot be traced back to person who spent it • Tracing electronic cash • Attach serial number to each electronic cash transaction • Cash positively associated with particular consumer • Does not solve double-spending problem Electronic Commerce, Ninth Edition 41

Holding Electronic Cash: Online and Offline Cash (cont’d.) • Single issuing bank can detect when two deposits of same electronic cash are about to occur • Impossible to ascertain fault (consumer or merchant) • Electronic cash containing serial numbers • No longer anonymous • One reason to acquire electronic cash • Raises privacy issues • Using serial numbers to track consumers’ spending habits Electronic Commerce, Ninth Edition 42

Electronic Cash Systems Electronic cash More successful in Europe and Japan Consumers prefer to use cash (does not work well for online transactions) Electronic cash fills important need Not successful in United States Consumers have payment cards and checking accounts KDD Communications (KCOM) Internet subsidiary: Japan’s largest phone company Offers electronic cash through NetCoin Center Electronic Commerce, Ninth Edition

Electronic Cash Systems (cont’d.) Reasons for failure of United States electronic cash systems Electronic cash systems implementation Required to download and install complicated client-side software that ran in conjunction with browser Number of competing technologies No standards developed Array of proprietary electronic cash alternatives No interoperable software Runs transparently on variety of hardware configurations and different software systems Electronic Commerce, Ninth Edition

Electronic Cash Systems (cont’d.) • CheckFree • Largest online bill processor in the world • Provides online payment processing services • Clickshare • An electronic cash system aimed at magazine and newspaper publishers • Micropayment only system • Tracks a user’s travel on the internet.

Electronic Cash Systems (cont’d.) PayPal Payment processing services to businesses, individuals Earns profit from float Money deposited, not used immediately Charges transaction fee Businesses using service to collect payments Peer-to-peer (P2P) payment system Free payment clearing service for individuals Payments from one type of entity to another of the same type Electronic Commerce, Ninth Edition

Electronic Cash Systems (cont’d.) PayPal (cont’d.) Eliminates writing and mailing checks or payment cards Send money instantly and securely to anyone with an e-mail address Convenient for auction bidders to pay for purchases Convenient for auction sellers Eliminates risks posed by other online payment types Transactions clear instantly Redemption PayPal check or direct deposit to checking accounts Electronic Commerce, Ninth Edition

Electronic Cash Systems (cont’d.) PayPal (cont’d.) Merchants and consumers first register for PayPal account No minimum amount account balance Add money by authorizing checking accounts transfer, using credit card Merchants need PayPal accounts to accept PayPal payments Another example: Western Union Electronic Commerce, Ninth Edition

Electronic Wallets Consumer concerns when shopping online Entering detailed shipping and payment information for each online purchase Filling out forms Solution Allows customer to store name, address, credit card information on the site Problem Consumers must enter information at each site Electronic Commerce, Ninth Edition

Electronic Wallets (cont’d.) Electronic wallet (e-wallet) Holds credit card numbers, electronic cash, owner identification, owner contact information Provides information at electronic commerce site checkout counter Benefit: consumer enters information once More efficient shopping Server-side electronic wallet Stores customer’s information on remote server of merchant or wallet publisher No download time or installation on user’s computer Electronic Commerce, Ninth Edition

Electronic Commerce Ninth Edition