Electronic Commerce Eighth Edition

1. Electronic CommerceEighth Edition Chapter 11Payment Systems For Electronic Commerce

2. 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, Eighth Edition Electronic Commerce, Eighth Edition 2

3. Online Payment Basics • E-commerce • Exchange money for goods or services • Important function: handling Internet payments • B2B payment transactions • Electronic funds transfers (EFTs) • B2C payment transactions • Evolving and competing for dominance • Customer convenience, saves companies money • Bill mailed by mail costs $1.00 to $1.50 • Internet billing cost: 50 cents Electronic Commerce, Eighth Edition

4. Online Payment Basics (cont’d.) • Four basic means to purchase items in B2C (traditional and electronic) • Cash, checks, credit cards, debit cards • 90% of all United States consumer payments • Electronic transfer: small but growing • Most popular: automated payments • Credit cards • Worldwide: 90% of online payments • United States: 97% of online payments Electronic Commerce, Eighth Edition

5. Electronic Commerce, Eighth Edition

6. Online Payment Basics (cont’d.) • Scrip • Digital cash minted by a company • Cannot be exchanged for cash • Exchanged for goods or services by company issuing scrip • Like a gift certificate: good at more than one store • Current scrip offerings (eScrip) • Focus: not-for-profit fundraising market • Merchant should offer customers payment options • Safe, convenient, widely accepted • Companies sell payment processing package service Electronic Commerce, Eighth Edition

7. Electronic Commerce, Eighth Edition

8. Payment Cards • General term describing all types of plastic cards consumers (businesses) use to make purchases • Categories: credit cards, debit cards, charge cards • Credit card (Visa, MasterCard) • Spending limit based on user’s credit history • Charge purchases against credit line • Options for user billing cycle payments • Pay off entire credit card balance; pay minimum amount • Card issuers charge unpaid balance interest • Accepted worldwide, 30-day dispute period Electronic Commerce, Eighth Edition

9. Payment Cards (cont’d.) • Credit card(cont’d.) • Card not present transactions • Cardholder not present during transaction • Requires extra security • 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, Eighth Edition

10. Payment Cards (cont’d.) • Charge card (American Express) • No spending limit • Entire balance due at end of billing period • No line of credit or interest charges • Examples: department store, oil company cards • “Payment card” • Refers to credit cards, debit cards, and charge cards Electronic Commerce, Eighth Edition

11. Payment Cards (cont’d.) • Single-use cards • Cards with disposable numbers • Addresses concern of giving online vendors payment card numbers • Not used much anymore • Problem: required consumers to behave differently Electronic Commerce, Eighth Edition

12. Advantages and Disadvantages of Payment Cards • Advantage for merchants • Fraud protection (built-in security) • Charge paid through issuer of payment card • Advantage for U.S. consumers • Liability of fraudulent card use: $50 • Card issuer frequently waives $50 charge if card stolen • Good for merchants and consumers • Worldwide acceptance • Currency conversion handled by card issuer Electronic Commerce, Eighth Edition

13. Advantages and Disadvantages of Payment Cards (cont’d.) • Disadvantage for merchants • Per-transaction fees, monthly processing fees • Cost of doing business • Goods and services prices are slightly higher • As opposed to environment free of payments cards • For payment: • Merchant must first set up merchant account • Disadvantage for consumers • Annual fee Electronic Commerce, Eighth Edition

14. Payment Acceptance and Processing • Internet payment card process easier than physical store process • 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 • Violation penalties are significant • Most do not charge payment card accounts until merchandise shipped Electronic Commerce, Eighth Edition

15. Payment Acceptance and Processing (cont’d.) • General steps in payment card transactions • Merchant receives payment card information • Merchant authenticates payment • Merchant ensures funds are available and puts hold on credit line or funds to cover charge • Settlement occurs (few days after purchase); funds travel between banks and are placed into merchant’s account Electronic Commerce, Eighth Edition

16. 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: member banks Electronic Commerce, Eighth Edition

17. Payment Acceptance and Processing (cont’d.) • Merchant accounts (acquiring bank) • Bank doing business with sellers (Internet, non-Internet) wanting to accept payment cards • Merchant account • Required for online merchant to process payment cards • Acceptance by bank of merchant account • Merchant must provide business information • Risk of business type assessed • Bank collects credit card receipts on merchant’s behalf • Credits value in merchant’s account Electronic Commerce, Eighth Edition

18. Payment Acceptance and Processing (cont’d.) • Merchant accounts (cont’d.) • Chargeback • Cardholder successfully contests charge • Merchant bank must retrieve money from merchant account • Merchant may have to cover chargeback potential • Problem facing online businesses • Level of online transaction fraud • Fewer than 5 percent of credit card transactions completed online; accounts for 60 percent of total credit card dollar amount fraud Electronic Commerce, Eighth Edition

19. Payment Acceptance and Processing (cont’d.) • Processing payment cards online • Payment processing service providers • Companies offering payment card processing • Example: InternetSecure • Supports Visa and MasterCard payments for Canadian and U.S. accounts • Provides risk management and fraud detection • Handles online merchants transactions • Uses existing bank-approved payment card processing infrastructure, secure links, and firewalls Electronic Commerce, Eighth Edition

20. Payment Acceptance and Processing (cont’d.) • Processing payment cards online (cont’d.) • First Data • Provides merchant payment card processing services with ICVERIFY and WebAuthorize programs • ICVERIFY: for small retailers using Microsoft Windows electronic cash registers, point-of-sale terminal systems • WebAuthorize: for large enterprise-class merchant sites • ICVERIFY, WebAuthorize connect directly to: • Network of banks: Automated Clearing House (ACH) • Credit card authorization companies • Connect to ACH through highly secure, private leased telephone lines Electronic Commerce, Eighth Edition

21. Electronic Commerce, Eighth Edition

22. Payment Acceptance and Processing (cont’d.) • Processing payment cards online (cont’d.) • Merchant Warehouse’s PayFlow Linksystem • Online payment system developed by CyberCash • Now operated by VeriSign • InfoSpace’s Authorize.Net • Online, realtime 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, Eighth Edition

23. 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 • Problem • No standard among all electronic cash issuers • Not universally accepted Electronic Commerce, Eighth Edition

24. Electronic Cash (cont’d.) • Small purchases not profitable for merchants • Bank fees greater than profits • Factors in favor of electronic cash • Potentially significant market for electronic cash • Market for Internet small purchases (below $10) • Most of world’s population does not have credit cards • Electronic cash: solution to paying for online purchases • Idea of electronic cash refuses to die • Despite failures Electronic Commerce, Eighth Edition

25. 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 has fixed monthly payment plans Electronic Commerce, Eighth Edition

26. Micropayments and Small Payments (cont’d.) • Small payments • All payments of less than $10 • Companies that have developed micropayment systems • Millicent, DigiCash, Yaga, BitPass • All have failed • No company has gained broad acceptance of its system despite industry observers seeing such a need • No company devoted solely to offering micropayment services Electronic Commerce, Eighth Edition

27. Privacy and Security of Electronic Cash • Electronic payment methods concerns • Privacy and security, independence, portability, convenience • Privacy and security: most important to consumers • Transactions vulnerable • Electronic currency: copied, reused, forged • Unique security problems of electronic cash • Possible to spend only once • Not counterfeit; used in two different transactions • Anonymous use • Prevents sellers from collecting information Electronic Commerce, Eighth Edition

28. Privacy and Security of Electronic Cash (cont’d.) • Electronic cash companies • eCharge, InternetCash, Valista • Advantages of electronic cash • Independent • Unrelated to any network or storage device • Ideally pass transparently across international borders; converted automatically to recipient country’s currency • Portable • Freely transferable between any two parties • Credit and debit cards: not portable or transferable • Important characteristic of cash: convenience Electronic Commerce, Eighth Edition

29. 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, Eighth Edition

30. 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 • Too late to prevent fraudulent act by time same electronic currency clears bank for second time • Prevent double-spending: use encryption techniques Electronic Commerce, Eighth Edition

31. Advantages and Disadvantages of Electronic Cash • Traditional brick-and-mortar billing methods • Costly • Generate invoices, stuff envelopes, buy and affix postage to envelopes, send invoices to customers • Accounts payable department • Keeps track of incoming payments, posts accounts in database, ensures current customer data • Online stores have the same payment collection inefficiencies • Online customers use credit cards to pay for purchases Electronic Commerce, Eighth Edition

32. Advantages and Disadvantages of Electronic Cash (cont’d.) • Online auction customers use conventional payment methods • Checks, money orders • 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) Electronic Commerce, Eighth Edition

33. Advantages and Disadvantages of Electronic Cash (cont’d.) • Advantages of electronic cash transactions (cont’d.) • Internet spans globe • Distance transaction travels does not affect cost • Does not require one party to obtain authorization • 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 Commerce, Eighth Edition

34. Advantages and Disadvantages of Electronic Cash (cont’d.) • Disadvantages of electronic cash transactions (cont’d.) • Susceptible to forgery • Other potentially damaging digital economic factors • Expansion of money supply when banks loan electronic cash on consumer and merchant traditional bank accounts • Electronic cash has not yet become a global success • Will require wide acceptance and solution to problem of multiple electronic cash standards Electronic Commerce, Eighth Edition

35. How Electronic Cash Works • Consumer opens account with electronic cash issuer • Presents proof of identity • Consumer withdraws electronic cash using issuer’s Web site • Presents proof of identity • Digital certificate issued by certification authority • Combination of credit card number and verifiable bank account Electronic Commerce, Eighth Edition

36. How Electronic Cash Works (cont’d.) • After consumer identity is verified: • Electronic cash amount is issued • Amount deducted from consumer’s account • Issuer may charge small processing fee • Consumer stores electronic cash • In electronic wallet • On his or her computer • On stored-value card • Consumer can authorize issuer to make third-party payments • From electronic cash account Electronic Commerce, Eighth Edition

37. Providing Security for Electronic Cash • Significant electronic cash problem • Potential for double-spending • Main deterrent • Threat of detection and prosecution • Keys to creating tamperproof electronic cash that can be traced back to origins • Cryptographic algorithms • Two-part lock • Provides anonymous security • Signals someone is attempting to double-spend cash Electronic Commerce, Eighth Edition

38. Providing Security for Electronic 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, Eighth Edition

39. Electronic Commerce, Eighth Edition

40. Providing Security for Electronic 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, Eighth Edition

41. Providing Security for Electronic 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 contains serial numbers • No longer anonymous • One reason to acquire electronic cash • Raises privacy issues • The use of serial numbers to track consumers’ spending habits Electronic Commerce, Eighth Edition

42. Providing Security for 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, Eighth Edition

43. 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, Eighth Edition

44. 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 • That runs transparently on variety of hardware configurations and different software systems Electronic Commerce, Eighth Edition

45. Electronic Cash Systems (cont’d.) • CheckFree • Largest online bill processor (in the world) • Payment processing services since 1981 to: • Large corporations, individual Internet users • 2007 Fiserv bought CheckFree ($4.4 billion) • Offers online bill processing under CheckFree brand Electronic Commerce, Eighth Edition

46. Electronic Cash Systems (cont’d.) • Clickshare • Electronic cash system for magazines and newspaper publishers • Uses technology called micropayment-only system • An ISP supporting Clickshare automatically registers users • When users click links leading to Clickshare sites • They can make purchases without registering again • Clickshare keeps track of transactions and bills user’s ISP Electronic Commerce, Eighth Edition

47. Electronic Cash Systems (cont’d.) • Clickshare (cont’d.) • Tracks user on the Internet • Significant value to advertisers, marketers • Defeats anonymity • Micropayment capability • By-product of core functionality of tracking identified users • Tracks users with standard HTTP Web protocol • Does not require cookies or software wallets Electronic Commerce, Eighth Edition

48. 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, Eighth Edition

49. 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 • Direct deposit to checking accounts Electronic Commerce, Eighth Edition

50. Electronic Commerce, Eighth Edition