India payments: The missing link

When Pay Point India launched its network of payment kiosks across India, its goal was to give the country's massive unbanked population a place to take care of financial issues.

Customers who visited the kiosks could pay utility bills and book bus, train or plane tickets. With their low operating and installation costs, the company could distribute its locations to areas that would be unprofitable for traditional banks to establish new branches.

Then came the explosion in Indian e-commerce plus a renewed drive by Prime Minister Narendra Modi's administration to bring more people into the banking system. Suddenly Pay Point's rural network had become invaluable resource. The company could add online shopping stations to its booths, where customers can order and pay for online products.

Pay Point wants to leverage this customer base and provide a broader service, including opening small accounts and issuing debt cards. To this end, it has applied for a payments bank license. When Lakshdeep Investments, which is owned by Sudhir Valia, executive director of Sun Pharmaceutical Industries, took a 51% stake in Pay Point earlier this year, it helped the company reach the INR1 billion ($15.6 million) in capital required to qualify for the license.

No plastic

Pay Point is just one of many Indian companies trying to turn the country's lack of a unified payment system to its advantage. With credit card penetration outside of tier one cities still low, e-commerce giants like Snapdeal and Flipkart have lacked the single comprehensive solution that credit cards presented to Western e-commerce pioneers like Amazon.

"There's lots of awareness created among the masses to buy online. But they are not banked, they have no payment instruments in their pocket. So how do they buy?" says Pay Point founder Ketan Doshi. "They know discounts are available on the sites, but they can't take advantage of it, because they don't have a payment mechanism."

While a variety of start-ups are looking to meet this need - and some, like Pay Point, have received capital from VC investors - the industry is still in its nascent stages. It is not yet clear how quickly Indian consumers will adopt mobile payment mechanisms, which business models will prevail, or indeed how these companies will interact with e-commerce players.

E-commerce revenues have risen from INR400 million in 2009 to INR3.5 billion in 2014, and they are projected to reach INR6 billion this year. Electronic payments are increasing in parallel. According to the Reserve Bank of India, there were over 144 million mobile banking transactions in 2014, more than seven times as many as when the bank first began tracking them in 2011. The financial value of these transactions rose from INR14.1 billion to INR665.7 billion over the same time period.

However, analysts still believe electronic payments will have a hard time toppling cash. Despite the technological advances, low-tech solutions continue to dominate the market for now, particularly the cash on delivery (COD) model, make direct payment to the courier who brings the goods to their door.

The continued popularity of COD - it accounts for a staggering 80% of deals in India's e-commerce market - is down to the fact that it lets customers inspect the merchandise before paying. Citing an internal study, Manish Saigal, managing director of the transactions advisory group at Alvarez & Marsal, estimates that 50% of transactions will still be COD five years from now.

Convenience and familiarity aside, COD is far from a perfect solution. The service is not widely available in rural areas, and there are considerable risks associated with having delivery drivers handle large amounts of cash. In addition, merchants still have to pay the transportation charges if the product is returned.

"With COD, the costs are higher, the returns are higher, and so it is good for the merchants also if the transactions happen electronically," says Amit Lakhotia, vice president of business at One97, the company behind mobile wallet app Paytm.

Finding a model

While Pay Point's approach centers on the company's network of physical kiosks, other start-ups bring the experience to the customer, either through the web, through mobile apps, or through specialized hardware.

Billdesk was one of the earliest entrants to the online payment sector. Founded in 2000, the company aggregates multiple banks and companies into a website, providing a convenient single location for customers to make payments. When TA Associates made its first investment in the company in 2012, its established network of merchants - which now covers utility companies, mobile carriers, financial services providers, and charities - was one of the primary attractions.

"It's very hard for somebody to build a network or replicate that network over a short period of time, so they had a head start in the space, and they were positioned to be the dominant actor," says Dhiraj Poddar, director and co-head of India at TA.

Unlike Billdesk's internet-only strategy, an increasingly popular alternative is the mobile wallet, of which Paytm and MobiKwik are the most well-known examples. These wallets allow customers to deposit money into an online account and use that to make payments to merchants.

"Wallets are perceived as more secure than bank accounts or credit cards, because the users don't want to expose their credit card or bank details on internet," says Paytm's Lakhotia. "They are comfortable transferring some money into their wallets, and then using that wallet to transact the cost."

Investors have taken note of this space as well, most notably China's Alibaba Group. A unit of its payments subsidiary Alipay paid $550 million earlier this year for a 25% stake in One97. MobiKwik raised a $25 million Series C round in April led by Tree Line Asia.

Mswipe and Ezetap represent another approach, manufacturing credit card readers that can be attached to mobile phones, turning them into mobile points-of-sale (POS). Ezetap received an $8 million investment from Helion Venture Partners, Social+Capital and others in 2014, while Mswipe counts Matrix Partners, Axis Bank and DSG Consumer Partners among its backers.

The appeal of this hardware is that companies can continue to offer consumers the convenience of COD, but without the risk and administrative costs associated with physical payments.

"A mobile POS could cut out all the middle men handling cash, making working capital cycles much shorter for e-commerce companies," says Matrix Partners Managing Director Vikram Vaidyanathan.

A good fit?

Many of these solutions can be adapted to work in India's e-commerce environment; mobile wallet holders can give their information to online merchants or pay in person, and mobile card readers allow credit or debit card users to do the same. The question for retailers is, which one can be expected to succeed?

Rahul Chowdhri, a partner at Ezetap backer Helion, says one of the biggest obstacles to overcome is that of trust. A newly established company, with no reputation in the sector, will have a hard time convincing consumers that it can be trusted to store their money. This will be especially challenging among those who have never had a bank account or credit card.

"The US mindset is slightly different, because you have a lot of early adopters, who grow because they find it cool - they find a new thing, and they want to try it out," says Chowdhri. "Here in India, you do need people to believe, because they are giving out their hard-earned money to be stored in your wallet."

At this time investors are largely hesitant to predict the outcome of the struggle between payment start-ups. One possibility is that the e-commerce giants will simply purchase the payment companies and bring them into the fold. There is precedent for this sort of deal; Snapdeal acquired online bill payment service FreeCharge in April.

But TA's Poddar cautions that the purchase is more likely to be a strategic move to grow Snapdeal's customer base than a ploy to overthrow rival payment startups - which, after all, was the justification given by Snapdeal.

"I think the e-commerce guys are really starting to find a way to ensure stickiness and loyalty," says Poddar. "And when they try and blend in a payment option, it's trying to generate the kind of traffic that they need to grow their core business." As Snapdeal suspected that FreeCharge's customers were not currently shopping online, they represented many untapped potential clients that the company was keen to take advantage of.

One disruption waiting down the road is the growth of payment banks. A new initiative by the Modi government, payment banks are meant to provide financial services with low barriers to entry, bringing the 40% of India's population that is currently unbanked into the traditional banking system. Accounts would hold no more than INR100,000, and banks could give out ATM or debit cards but not credit cards.

For Pay Point, the appeal of a payment bank license is that it will give customers a built-in digital option that is accessible in all of its payment booths. The company has focused on building up its network in rural areas, and sees this as its strength.

Along with Pay Point, several other established e-payment players have also applied for payment bank licenses, including MobiKwik and Paytm. Helion's Chowdhri says that the advantage to a mobile wallet company of becoming a payment bank is that it can offer interest to customers, which would encourage them to keep more money in their accounts.

"The size of the wallet that most of these companies hold is quite small today," says Chowdhri. "As and when these licenses come about, you would see people going on their own and putting in more money." This could be a significant change, because with more money in their wallets, customers would in turn be tempted to spend it.

Payments banks offer another potentially major disruption in the form of expanding the number of consumers with debit cards. Since these can be used like credit cards, they could offer a major boost to more traditional models of online shopping. But mobile card readers, such as those developed by Mswipe and Ezetap, mean that the disruptive effects could extend even to customers who still prefer to examine their purchase before they pay for it.

"You may not be able to change it right away, but customers may say I don't want to give my card information to this merchant now, but I'm willing to pay with my card when the goods show up on my doorstep," says Raj Dhamodharan, group head of Asia Pacific emerging payments at MasterCard. "That's not happening in many other markets, and it's fairly unique to India."

Seeking sustainability

A potential complication to increased acceptance of credit cards is the issuers themselves. Banks have traditionally been reluctant to issue cards, because of the difficulties involved in checking credit history in India compared to the US and Europe.

"There's no formal system here where it's possible to look at someone's credit history over a period of time, to be able to decide that he's credit worthy," says Alvarez & Marsal's Saigal.

India's legal system also makes it difficult to collect on credit card debts. Saigal observes that taking action against someone who owes $500 is likely to cost considerably more than this sum, and it may be at least five years before the creditor's rights are enforced and compensation is paid.

Another challenge payment startups face is the transition from building a profile and a brand to being able to earn a sustainable profit. This is a particular issue for mobile wallets, which use discounts to attract customers. The problem with this practice, according to Pay Point's Doshi, is that companies tend to become competitive with their discounts, and so customers shop around for the best deal.

"If Paytm is offering a 20% discount, MobiKwik next quarter will have a 30% discount. Consumers are seeing that and they're moving from one wallet to another," says Doshi. "We would rather not get into that mad rush, and have a standard."

TA's Poddar is also concerned about the willingness of payment start-ups to lose money in the rush to gain customers. While this is a common practice in the e-commerce industry, he considers it unnecessary for companies involved in handling money to build awareness through promotions. The fact that customers trust these companies with their money should be enough to build a profitable business.

"The industry is growing anyway, and the cash burn isn't actually accelerating the growth. I think it is in e-commerce, but not in payments," says Poddar. "So at some level I worry about people being irresponsible when it comes to cash burn on the payments side."

One theme emphasized time and again by industry participants is that the payments industry is at a very early stage of its development. The diversity of customers being targeted, the recent changes to the financial environment encouraged by the government, and the many approaches currently being pursued, all combine to create multitude of options for investors. Rather than a battle of all against all, the future could see a variety of companies, catering to different markets.

In addition, the expansion of credit and debit cards could eventually drive the e-commerce space back toward a more Western model. As customers become more comfortable with the idea of shopping online, they may find they no longer seek the assurance of personal interaction.

"As they get into this lifestyle of buying something and getting it delivered at home, they will find that choosing to pay with cards or other electronic means is a lot more convenient than making sure that you are there for delivery and paying for it," says MasterCard's Dhamodharan. "I think that's a cycle that people will go through. In early days cash on delivery seems to be an option that consumers like. But as we've seen in other markets, that kind of erodes over time."

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• Topics
• Consumer
• Technology
• Financials
• South Asia
• Expansion
• TMT
• Consumer
• Financial Services
• India
• TA Associates
• Helion Ventures