Tuesday, August 08, 2017

Elon Musk's Paypal (X.com) master plan: A financial services flywheel of growth aka snowball or productivity loop

In his Ashlee Vance biography, Elon Musk talks about what he sees as a huge missed opportunity for Paypal. Here is how he explained it in Appendix 2, below that similar thinking by the Brenninkmeijer family, Sam Walton and Jeff Bezos is presented.

"While Musk has reflected publicly about his time at Paypal and the coup (he was removed as CEO), he went into far greater detail than ever before during one of our interviews... Musk had been able to meditate more on what went right, what went wrong, and what might have been... and ended with an explanation of how the finance industry still hasn't solved the problems X.com wanted to tackle. 

"... At the time it was this weird almost hybrid brand with X.com and PayPal. I think X was the right long-term brand for something that wants to be the central place where all transactions happen.  That's the X. It's like the X is the transaction. PayPal doesn't make sense in that context, when we're talking about something more than a personal payment system. I think X was the more sensible approach but timing-wise it didn't need to happen then. That should have probably waited longer ... In retrospect, I should have delayed the brand transition (from X.com to PayPal).... I've thought about trying to get PayPal back. I've just been too strung out with other things. Almost no one understands how PayPal actually worked or why it took off when other payment systems before and after it didn't. Most of the people at PayPal don't understand this. The reason it worked was because the cost of transactions in PayPal was lower than any other system. And the reason the cost of transactions was lower is because we were able to do an increasing percentage of our transactions as ACH, or automated clearing house, electronic transactions, and most importantly, internal transactions. Internal transactions were essentially fraud-free and cost us nothing. An ACH transaction costs, I don't know, like twenty cents or something and was slow, so that was the bad thing. It's dependent on the bank's batch processing time. And then credit card transaction was fast, but expensive in terms of the credit card processing fees and very prone to fraud. That's the problem Square is having now. 
Square is doing the wrong version of PayPal. The critical thing is to achieve internal transactions. This is vital because they are instant, fraud-free, and fee-free. If you're a seller and have various options, and PayPal has the lowest fees and is most secure, it's obviously the right thing to use.
When you look at any given business, like say a business is making 10 percent profitability. They're making 10 percent profit when they may net out all of their costs. You know, revenue minus expenses in a year, they're 10 percent. 
If using PayPal means you pay 2 percent for your transactions and using some other systems means you pay 4 percent, that means using PayPal gives you a 20 percent increase in your profitability. You'd have to be brain dead not to do that. Right? 
So because about half of PayPal's transactions in the summer of 2001 were internal or ACH transactions, then our fundamental costs of transactions were half because we'd have half credit cards, we'd have half that and then the other half would be (partly) free. (Recall the zero cent cost of internal transactions within PayPal itself.) The question then is how do you give people a reason to keep money in the system. 
That's why we created a PayPal debit card. It's a little counterintuitive, but the easier you make it for people to get money out of PayPal, the less they'll want to do it. But if the only way for them to spend money ro access it in any way is to move it to a traditional bank, that's what they'll do instantly. The other thing was the PayPal money market fund. We did that because if you consider the reasons that people might move money out, well, they'll move it to either conduct transactions in the physical world or because they are getting a higher interest rate. So I instituted the highest-return money market fund in the country. Basically, the money market fund was at cost. We didn't intend to make any money on it, in order to encourage people to keep their money in the system. And then we also had also had like the ability to pay regular bills like your electricity bill and that kind of thing on PayPal.
There were a bunch of things that should have been done like checks. Because even though people don't use a lot of checks, they still use some checks. So if you force people to say, 'Okay, we're not going to let you use checks ever,' they're like, 'Okay, I guess I have to have a bank account.' Just give them a few checks, for God's sake.
I mean it's so ridiculous that PayPal today is worse than PayPal circa end of 2001. That's insane.
None of these start-ups understand the objective. The objective should be - what delivers fundamental value. I think it's important to look at things from a standpoint of what is actually the best thing for the economy. If people can conduct their transactions quickly and securely that'better for them. If it's simpler to conduct their financial life it's better for them. So, if all your financial affairs are seamlessly integrated integrated one place it's very easy to do transactions and the fees associated with transactions are low. These are all good things. Why aren't they doing this? it's mad."

Note:  In 2007 PayPal transactions were ridicously expensive, 4% fee.. Someone paid me $146 via PayPal of which PayPal took $6 and I received $140.  ) http://sinaas.blogspot.nl/2007/08/paypal-meer-dan-4-over-146-euro.html

In this interview Musk explains the same sentiment, he wanted X.com to dominate world finance in one database:  

Retail underseller C&A called it the "snowball system" in 1906: "Terrain can be won by offering large amounts of useful clothing at prices that can be paid by the masses. Due to the higher sales expected, the gross margins (BCP%) per piece sold can be kept low, and a snowball system can be developed which leads to ever-increasing conversions. "
C&A snowball system, net profit increases as gross margin decreases
Original Dutch “Terrein kan worden gewonnen door grote hoeveelheden bruikbare confectie aan te bieden tegen prijzen, die door de massa kunnen worden betaald. Door de te verwachten hogere omzet kan de calculatie per stuk laag gehouden worden, en zo kan zich een sneeuwbal-systeem ontwikkelen, dat tot steeds hogere omzetten leidt.”

The same concept as used at Walmart and adapted by Jeff Bezos for Amazon.
Comments, questions or E-mails welcome: ajbrenninkmeijer@gmail.com

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