Rakesh Agrawal is a payments expert. He has been widely quoted about the industry in publications such as Bloomberg Businesweek, The New York Times and appeared on CNBC and Bloomberg.
According to Bloomberg, Square has begun the process of an IPO with a confidential filing. (Allowed under the JOBS Act for companies with less than $1 billion in revenue for the previous completed fiscal year.)
Square has been widely considered a hot company. Part of this is due to the celebrity status of founder Jack Dorsey, who also co-founded Twitter. Its eponymous card reader is used by millions of small businesses, according to the company. (This should be discounted because there is no commitment; I’m technically a Square user, even though my Square sits in a drawer.)
There’s no doubt that Square has simplified and demystified the bewildering payments process for small businesses. Instead of dealing with byzantine rates, statement fees and minimums, Square charges a flat 2.75% of each transaction.
But that also creates a business problem for Square: most transactions at coffee shops and food trucks result in a loss to the company due to the relatively high fixed cost of credit and debit transactions.
Square claims $30 billion in processed transactions. If you’re generous and assume all of that volume is at the 2.75% rate, that translates in to $825 million in gross revenue. But the vast majority of that goes straight out the door to payments processors.
In the credit card industry, success is measured in “bps,” or basis points. 100 basis points equals 1 percent. Apple gets 15 bps per transaction for Apple Pay. Square should be getting significantly more. But, unlike Square, Apple likely isn’t on the hook for fraud losses.
The S-1 won’t be available to the public for some time, But when it comes out, here are the key things to look for:
Merchant mix. The type of merchant affects Square’s profitability. Food trucks and coffee shops are bad. Doctors, plumbers and contractors are good.
The median ticket. The lower the median ticket, the worse things are for Square. A number in the $10-$20 range is disastrous. Above $100 is great.
Credit vs. debit mix. Credit transactions are substantially more expensive to process.
Transactions per merchant. This will likely show that the vast majority of Square’s “merchants” are people like me with Squares sitting in drawers.
Fraud losses. Fraud makes or breaks a payments business. In the early years, PayPal nearly went bankrupt because of fraud.
Revenue from non-transaction products. Many of Square’s widely publicized initiatives are failures: Square Wallet, Square in a Box, Square gift cards, Square Cash. For Square to be a business that approaches its valuation, it will need to develop significant revenue from ancillary products.
I talk to Reuters about Square killing its gift card product less than a year after launch.
The gift card service “wasn’t a very well thought-out experience,” said Rocky Agrawal, payment and commerce analyst at reDesign Mobile. Agrawal said he tested the gift cards at several merchants and at least half of the businesses did not know how to redeem them.
Square may also have had trouble dealing with different state laws covering gift cards. In California, if a consumer has a balance of less than $10 on a gift card, merchants are required to refund that value in cash, according to Agrawal.
“Merchants didn’t know anything about that when I asked them,” he said.
I stopped in at Radio Shack last week to take advantage of foursquare’s 20% off newbie special on an iPod Touch. (It’s a great deal. 20% off a current generation Apple product is tough to find.)
The clerk I talked to had no idea what I was talking about. He reluctantly brought over the manager. She had no idea what I was talking about. She stared at the offer on the screen and couldn’t figure it out. She tried calling another store. Again, no idea what was going on. Then she called Radio Shack’s POS support line and was on hold for about 20 minutes.
If I were an ordinary customer, I would have been fed up and left. But I like to see how these things play out and consider it market research, so I let it go on. I amused myself as the manager spent her time on hold trying to sell me batteries, extended warranties, screen protectors, armbands and pretty much anything else that was within reach.
I asked if she could just override the system and add the discount. No, store managers don’t have that discount. Finally, she randomly entered promotion codes and figured it out.
Thirty minutes after I entered the store I left with my iPod. During that time she couldn’t help other customers. It was’t a great experience for me, the other customers, the store or foursquare.
Clearly the offer code was not a single use code or she wouldn’t have been able to guess it. Either Radio Shack needs to get much better at training or they need to put POS instructions right on the foursquare offer. (They also need to better staff their POS support desk. No one ever picked up.)
This isn’t limited to foursquare or Radio Shack. I run into this all of the time when trying to redeem mobile offers. My default expectation is that it won’t go smoothly.
That’s one thing that appeals to me about Square’s Card Case and Register. Because the POS system is integrated with loyalty rewards and promotions, here shouldn’t be a disconnect between the offer that I see on my screen and what the merchant sees on hers.
The tip line. A somewhat passive-aggressive solicitation for money. It’s long been the norm at full-service restaurants, but it also appears at many places where I wouldn’t ordinarily tip. If I order and pick up my food at the counter, a tip seems unnecessary. If I pay cash, there is no default expectation of a tip. (Though there might be an easily ignored tip jar somewhere.) But paying by credit card, the tip is closer to an opt out. I have to explicitly draw a line through the tip line and write in a total. I’ll admit to tipping at places I wouldn’t ordinarily tip because of the subtle pressure. Sometimes I’ll pay with cash to avoid the situation.
Changes in payment systems are changing this dynamic. Increasingly, credit card companies aren’t requiring signatures for low-value transactions. With MasterCard’s Quick Payment Service, transactions under $50 can be processed without a signature. It’s faster for the consumer, moves the line quicker, but removes the opportunity to tip on plastic.
Square’s payment service offers a tip option:
This implementation is the equivalent of the physical tip jar: if you go through the normal transaction flow and just sign, there is no tip. You have to explicitly click the box in the upper right corner to add a tip. (I haven’t seen what the tip experience is like with Square’s new Card Case.)
Is that the right experience? It depends on whom you ask.
Square today announced its Register and Card Case products to complement the existing Square reader and smartphone applications. While Square has been focused on the merchant experience, this move expands its role on the consumer side. (Consumers have been able to receive receipts by email or text message when making purchases at Square merchants.)
With the new application, customers will be able to search for nearby Square merchants, see what’s on their menu and view receipts for previous transactions. Customers can also pay right from their mobile phone and the payment is confirmed on the merchant’s iPad.
Merchants will have the ability to accept a payment without swiping a card. They can also keep better track of what they’re selling. A loyalty program allows businesses to reward loyal customers. Unlike check in based systems which involve users to self-report, this system would be harder to cheat.
One open question is whether these transactions will be treated as card present transactions for Square. I expect that Square will charge merchants the swipe rate for these transactions. If they’re paying out the card-not-present rates, this will eat into their margins.
What we’re seeing here is only the beginning. There are a lot of important problems that can be solved with the data that Square will be collecting:
It’s 2 a.m. and I’m hungry. What’s open? This is a problem that search generally handles poorly. Yelp has done the best job of collecting this among anyone I’ve seen. (Google tries, but its data is less comprehensive.) Even when the data are collected, they are often inaccurate. (Holidays, business was slow so we closed early, etc.) The Square Register could contain a virtual Open and Closed indicator that is visible to consumers.
I have a craving for a dosa. Where can I get one? With menu item data, Square could answer that question — at least for its merchants.
I have a receipt, but I can’t remember who I was with. The Square app could allow users to flag tax-related transactions and record notes like who you ate with.
I want to tell someone about a place I ate at, but can’t remember the name. (And want credit.) People are generally bad at remembering place names. Merchants could also offer rewards for new customer referrals, much like online merchants do.
I’m in a hurry and I need an order to go. Consumers could order right from their mobile phones, the order would pop up on the merchant’s screen and the merchant could select an estimated pickup time. For the merchant, this also reduces the risk of nonpayment for phone orders that aren’t picked up.
Updating Web sites is hard. Most local business Web sites I go to are horribly out-of-date. Menu items and pricing can be more than a year old. Hours are often wrong. Maps are hard to find. Square could take the data from the Register system and generate Web pages with dynamic information, including today’s specials and hours. Some card issuers and payment processors have offered Web site creation, but these have mostly been low quality efforts.
I don’t have a mobile presence. Very few local businesses have dedicated mobile sites. At best, you get a hard-to-read version of the main site. At worst, you see sites created by incompetent flash designers who knew nothing about user experience. These render blank on an iPhone. Square-generated mobile Web pages would provide easy access to key info such as location, hours and menus. Google says about 40% of searches on mobile devices are local in nature — as a result, this is becoming increasingly critical.
I don’t have time to enter data multiple times. Square could also generate a PDF that could be printed for in-store menus. Data entered once gets used for POS, paper menus, Web site, mobile site and promotions. This not only saves on work, it eliminates inconsistencies which can cause customer service problems. Getting a bit crazier and thinking further out into the future, a Square app on an Apple TV could show promotions in store.
I want to get people to try new items. Square could use transaction history to entice regular customers to try things on the menu that they haven’t tried before. With promotions, you want to spend your promotion dollars on transactions that wouldn’t happen otherwise. Paper coupons are dumb in this regard. Say you’ve got a raspberry tart that you think is amazing. You could find all of the customers who haven’t ordered it and send them a promotion.
I want to know what my customers think of me. An email after the fact could prompt users for feedback and generating a net promoter score. It can also be a way of drumming up more business. For example: “Would you recommend us to a friend?” If the customer says, no, you can ask why. If yes, you can ask for friends right then and there. “Whom would like to recommend us to?” The referral can be coded so that the business can thank the original customer for the referral. A Square app could also provide more actionable data than the typical Yelp review — a restaurant would know when they ate, what they ordered, etc. This would make it easier to identify problem employees or dishes.
I want to know how I’m doing compared with other businesses in my area. I charge $3.50 for a slice of pizza. How does that compare with others? How does my revenue compare? Of course, this all needs to be done in a way that protects business anonymity. Data would only be available when there is enough participation so that a single businesses’ information can’t be identified. Participation should be opt in, with the carrot being access to data. The key here is that data needs to be in a meaningful context. I’ve seen many startups that just want to throw data at businesses. That’s not good enough. Square will also need to answer the “So what?” What decisions should I make based on that data?
Today I had the opportunity to talk with Dave from Chili Inside / Chili Outside a food cart operating in Portland. Chili Inside recently ran a Groupon and also uses Square to take credit card payments.
The key takeaway here is that simplicity sells. The credit card acceptance market has been complicated to understand, with setup fees, monthly fees, minimums, upcharges for certain types of cards, etc.
Not only does simplicity make the initial sale, it makes it easier for those customers to evangelize your product because they’re comfortable explaining it to others.
Dave found out about Square when his son, Alex, spotted it at another food cart in Portland.
Other providers “seemed more daunting to even look into.”
“When Square came along and it looked easy and simple. It was.”
Before Square, he would try to get customers to pay with cash on hand or direct them to a mini-mart to get cash. One of Chili Inside’s older Yelp reviews says, “Only cons were they are not set up to take cards which cost me $2.50 around the corner to use the ATM.”
Customers have reacted very positively to seeing the iPhone with the Square reader. “Most everybody is pretty dazzled by it. It’s really fun to show it off.” Dave also showed me his technique to get it to swipe the first time every time.
He uses the Square reader daily. About 1/3 of his transactions are by credit card. During the time I was at the cart, at least three people paid with Square.
Square’s pricing was lower and less complicated than other vendors.
He is pleased with the real-time reporting capability. “We’ve got real time feedback virtually on every credit card swipe we take.” He showed me the screen with transactions that had just happened.
He was pleasantly surprised that a Square representative gave him a phone number to call with questions.
He would like to see the tipping option more prominent in the interface.
He has evangelized Square to other businesses locally. Square sent him a bunch of readers and he has been handing them out.
Chili Inside ran a Groupon promotion on the same day as several as other Portland food cards.
533 Chili Inside Groupons were sold. A normal day is 20-30 customers. Groupons were about a month worth of business.
In the week since the Groupon ran, about 35 have been redeemed. Dave estimated that 20 of them were from people who hadn’t heard about Chili Inside before.
Dave’s primary goal in running the Groupon was to introduce customers to his food and inspire repeat business. As a new business in the area, it was important to reach an audience. (See 5 cases when it makes sense to run a Groupon.) “Most of the people that purchased the Groupon didn’t know we were here and they live within blocks. We believe when people have our food, they’ll come back.”
Chili Inside uses an iPhone to scan the bar code on Groupons to redeem them.
He had approached Groupon months ago and never heard back. Then a rep called him about the food cart day.
Groupon has approximately 500,000 people on its mailing list in Portland. Chili Inside sales were 0.1% of that.
He has been approached by other deals sites, including LivingSocial.
Dave wouldn’t disclose the terms of the Groupon deal.
He is a big fan of Google voice search on the iPhone.
His wife monitors Yelp reviews and updates Facebook and Twitter pages.
Dave wasn’t aware of foursquare.
Note: As with most such research, when I mention that someone isn’t aware of something, it isn’t a criticism. It’s meant to highlight that even though people in the industry talk regularly about services like they’re ubiquitous, they aren’t.