From:
http://www.ecommercetimes.com/perl/story/32440.html
It has an interesting application to online games in general.
Mike "Talien" Tresca
RetroMUD Administrator
http://michael.tresca.net
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The Web's New Currency
By Gregory T. Huang
December 19, 2003
Forty percent of today's online companies would sell content they're
currently giving away if they had a viable micropayment system, says
Avivah Litan, an analyst at Gartner Research who specializes in
Internet commerce.
Ask Ron Rivest if he's ever been whisked away by the CIA in the
middle of the night, and he laughs -- but he doesn't say no. At
Peppercoin, a two-year-old MIT spinoff in Waltham, MA, the renowned
cryptographer oversees an operation far less secretive than an
intelligence agency but almost as intense: a clearinghouse for
electronic "micropayments," pocket-change transactions that may
finally allow magazines, musicians, and a multitude of others to
profit from selling their wares online. It's September, and with
only weeks to go until commercial launch, Peppercoin's software
engineers troubleshoot at all hours. Marketing executives shout
across the room and over the phone, making deals.
But in the eye of the storm, Rivest is calm and collected. Eyes
sparkling, real change jingling in his pocket, he even wears sandals
with authority. What Peppercoin is trying to do, he says, is make
it easy to "pay as you go" for inexpensive Web content -- so you
won't need to pay subscription fees, limit yourself to free content,
or share files illegally. With a click of the mouse -- and
Peppercoin's software churning away behind the scenes -- you can now
download a single MP3 from an independent-music site, watch a news
video clip, or buy the latest installment of a Web comic from your
favorite artist, all for just pennies.
It sounds simple, but it wasn't possible a few months ago. Most Web
merchants still can't support micropayments -- transactions of about
a dollar or less -- because the processing fees from banks and
credit card companies erase any profit. But Peppercoin, the
brainchild of Rivest and fellow MIT computer scientist Silvio
Micali, is in the vanguard of a new crop of companies -- including
BitPass of Palo Alto, CA, and Paystone Technologies of Vancouver,
British Columbia -- that make cash-for-bits transactions
superefficient. These companies' founders are well aware of the
string of defunct e-payment companies whose virtual currencies have
gone the way of the Confederate dollar. But they've got something
new up their sleeves: easier-to-use technology that allows Web sites
to accept tiny payments by effectively processing them in batches,
thereby cutting down on bank fees.
So throw out your current conceptions of Web surfing. Rather than
sifting through pop-up ads and subscription offers, imagine dropping
a quarter on an independent film, video game, specialized database,
or more powerful search engine. If programmers and Web artists could
profitably charge a few cents at a time, their businesses could
flourish. And with an easy way for users to buy a richer variety of
content, experts say, the current deadlock over digital piracy could
effectively dissolve, giving way to a multibillion-dollar business
stream that rejuvenates the wider entertainment industry the same
way video rentals did Hollywood in the 1980s. Down the road, cell
phones , personal digital assistants, and smart cards equipped with
micropayment technology could even supplement cash in the real
world.
"The key is timing and technology," says Rivest, who thinks
Peppercoin has both right. The company's technical credibility, at
least, is not an issue. Rivest coinvented the RSA public-key
encryption system, used by Web browsers to make credit card
purchases secure. Micali holds more than 20 patents on data security
technologies and won the 1993 Godel Prize, the highest award in
theoretical computer science. Their system uses statistics and
encryption to overcome profit-erasing transaction fees; the approach
is unique and more efficient than its predecessors.
The timing looks good, too -- not just for Peppercoin, but for other
micropayment companies as well. "One year ago, it was, 'Will people
pay?' Now it's, 'How will they pay?'" says Ian Price, CEO of
British Telecommunications' Click and Buy division, which uses
micropayments to sell articles, games, and other Web content to
customers in more than 100 countries. And in September, Apple
Computer announced that its online music store sold more than 10
million 99-cent songs in its first four months. Apple's success was
the "starting gun for a track meet of companies" planning to roll
out pay-per-download services by 2004, says Rob Carney, Peppercoin's
founding vice president of sales and marketing.
Indeed, 40 percent of today's online companies would sell content
they're currently giving away if they had a viable micropayment
system, says Avivah Litan, an analyst at Gartner Research who
specializes in Internet commerce. According to Forrester Research,
the market for music downloads is expected to grow from $16 million
in 2003 to $3 billion in 2008. And a Strategy Analytics report
states that mobile-gaming revenues could top $7 billion by
2008. "The market is ready" for micropayments, says Rivest.
Even so, getting the technology to take off won't be
easy. Micropayment companies need to make their systems fully
reliable, secure, and easy to use. Just as important, they need to
increase demand by working with Web businesses to deliver a broader
range of digital products. So on the eve of Peppercoin's commercial
launch, the question is not whether the timing and technology are
good. It's whether they're good enough.
In Statistics We Trust
Understanding Peppercoin requires a little history. According to old
English common law, the smallest unit of payment that could appear
in a contract was a peppercorn. Silvio Micali's wife, a professor of
law, suggested that as the name for his startup back in 2001, and it
stuck (becoming "Peppercoin" for the sake of clarity). Now, in his
office at MIT's Computer Science and Artificial Intelligence
Laboratory, Micali is explaining what makes Peppercoin tick. On hand
are technical books and papers in neat piles, should we need
them. It's simple mathematics, says Micali -- but don't believe him.
Micali knows two things: cryptography and coffee. His micropayment
analogies involve cappuccinos. There are two standard ways of buying
digital content, he says. One is like prepaying for a certain number
of cappuccinos, the other like getting a bill at the end of the
month for all the cappuccinos you've had. That is, the customer
either pays up front for a bundle of content -- say, 10 archived New
York Times articles -- or runs a tab that's settled every so
often. The problem with both models is that the seller has to keep
track of each customer's tab, and the buyer is locked into a
particular store or site. But in the spring of 2001 came a "very
lucky coffee break" when Micali and Rivest, whose office is just
down the hall, put their heads together. "We started discussing this
problem, and within minutes we had the basic solution," says
Micali. "And we got very excited! First, from the
discovery. Second, from the coffee."
What they discovered was a way to cut the overhead cost of
electronic payments by processing only a statistical sample of
transactions, like taking a poll. On average, Peppercoin might
settle, say, one out of every 100 transactions -- but it pays the
seller 100 times the amount of that transaction. Given enough
transactions, it all evens out, says Micali.
It looks simple to the buyer, who only has to click on an icon to
charge an item to her Peppercoin account, but the action behind the
scenes is pretty complicated. In beta tests, special encryption
software runs on both the buyer's and seller's computers, protecting
their interactions from hackers and eavesdroppers. And encrypted in
each transaction is a serial number that says how many purchases the
customer has made over time, for how much, and from whom.
Ninety-nine transactions out of a hundred are not fully processed --
but they're still logged by the seller's computer. One transaction
out of a hundred, selected at random, is sent to Peppercoin. After
Peppercoin pays the seller 100 times the value of that transaction,
it bills the customer for all of her outstanding purchases from all
sites that use Peppercoin. Since about one out of a hundred
purchases is processed, her last bill will have come, on average, a
hundred purchases ago. That's the trick: by paying the seller and
charging the customer in lump sums every 100 purchases or so,
Peppercoin avoids paying the fees charged by credit cards -- roughly
25 cents per transaction -- on the other 99 purchases. "This is
fantastic," says Greg Papadopoulos, chief technology officer at Sun
Microsystems and a member of Peppercoin's technical advisory
board. "Ron and Silvio have done what needed to be done -- get the
cost of transactions down without ripping up the existing
infrastructure of credit cards and banks."
But what's to keep all this fancy statistical footwork from cheating
sellers out of their due? And what's to keep buyers and sellers both
from cheating the system? "That's the secret sauce," says Micali.
He's talking about cryptography, the sweet science of codes and
ciphers. Its inner workings are, well, cryptic -- paper titles at
conferences include things like unimodular matrix groups and
polynomial-time algorithms -- but it's used every day to keep
communications, documents, and payments secure. Roughly speaking,
says Rivest, statistical sampling of transactions makes the system
efficient, while cryptography keeps the random selection process
fair and secure. So Peppercoin charges users exactly what they owe,
and if Peppercoin's payment to the seller happens to be more or less
than the value of the purchases customers actually made, the
discrepancy is absorbed by the seller. Over time, this jiggle will
become negligible, especially compared to the amount of money Web
sites will make that they couldn't make before.
Think about it for too long, and most people get a headache. But
Micali and Rivest have been thinking about this sort of thing for 20
years, so they make a formidable and complementary team: Micali is
as animated as Rivest is understated, like fire and ice. "They've
done brilliant work over the years," says Martin Hellman, a
professor emeritus of electrical engineering at Stanford University
and a pioneer in cryptography going back to the 1970s. "Peppercoin
has a clever approach."
But clever mathematics aside, the proof is in the pudding. In the
end, Peppercoin's executives say, their system must be as easy to
use as cash. Perry Solomon, Peppercoin's founding CEO, explains it
this way, pulling some change out of his pocket. "I can give you
this quarter, and you can look at it quickly and say, 'Okay, that's
a quarter.' You don't need to call the bank to verify it." Online
merchants, however, must check a credit card holder's identity and
available credit before approving a purchase. Going to that trouble
makes sense for a $50 sweater or a $4,495 Segway transporter, but
not for a 50-cent song. So Peppercoin's software stamps each
transaction with the digital equivalent of e pluribus unum -- a
guarantee to the seller that it's Peppercoin handling the
transaction, and that payment is forthcoming. The seller can quickly
verify this stamp and deliver the goods.
Bootstrapping with Bits
The theory may be impeccable, and the founders' credentials
outstanding, but how does a startup transform a micropayment system
into a practical, sellable product? That's the stuff of late-night
whiteboard discussions enhanced by takeout Chinese food and bad TV
movies, says Joe Bergeron, Peppercoin's vice president of
technology. Bergeron, a baby-faced programming whiz, has the task of
translating Rivest and Micali's algorithms into software. Like any
good engineer at a startup, he has spent many a night under his desk
trying to squeeze in a few hours of sleep. "I'm dreaming in
Peppercoins now," he says.
Minting micropayments starts with hardware. A secure data center a
few kilometers from company headquarters houses hundreds of
thousands of dollars' worth of computing horsepower and memory. All
of Peppercoin's money transfers flow electronically through these
machines. A rack of 20 processors and backups and four levels of
hardware security are set up in a special cage walled off by
Plexiglas guaranteed to withstand a 90-minute riot; the rental
contract even specifies that the cage will repel "small-arms fire
and manual tools."
But Peppercoin's system must also be bulletproof to electronic
problems. Take transaction speed, for instance. Peppercoin is
working with one Web site that delivers 1,000 digital maps per
second. For Peppercoin to handle that many purchases, and for buyers
to get their content without waiting, the behind-the-scenes
computations must happen in milliseconds. As Bergeron explains,
sketching a flow chart on a whiteboard, the software module that
identifies what the buyer is paying for, verifies that the payment
is good, and sends the digital content to the buyer has been taking
a few milliseconds too long in beta tests. The solution: do these
steps in parallel, and manage customer queries in a flexible way by
devoting more computing resources to the steps that take
longer. Trimming bits of fat like this saves precious processing
time per click -- and ultimately keeps the system running
efficiently.
Perhaps even more crucial to Peppercoin's success, though, is its
sales strategy. "The challenge isn't getting people to buy the
math. It's enabling a new business model for the Web," says Rob
Carney. In two respects, micropayment startups are fundamentally
different from online person-to-person payment companies like
Mountain View, CA-based PayPal, one of the most successful of
e-payment companies. First, they are enabling Web merchants to sell
low-priced digital content, not physical items. Second, they don't
have anything approaching the captive market that PayPal has in the
customers who use eBay, the San Jose, CA, online auction house that
purchased PayPal in 2002.
So Peppercoin's plan -- similar to those of other micropayment
startups (see "The Micropayment Movement," this page) -- is to go
after Web merchants, work with them to decide what kinds of content
to sell, and build up a brand name with which to approach larger
distributors. It's a painstaking process; Solomon and Carney have
attended more than 400 sales meetings in two years, trying to
persuade merchants that Peppercoin's own fees -- which work out to
be much lower than the flat transaction fees charged by credit cards
-- are a small price to pay for the extra business micropayments
will generate.
But all this work is starting to pay off. "Peppercoin has been a
huge benefit for us," says Rex Fisher, chief operations officer at
Music Rebellion, a Terre Haute, IN, company that last June started
selling 99-cent MP3s by the download, using a beta version of
Peppercoin's system. The bottom line: micropayments allow the music
site to triple its profit margin, as compared with traditional
payment methods. As for the user interface -- buyers sign up for a
Peppercoin account and then click on music icons to charge songs --
Fisher says he's working with Peppercoin to make it "easy and hassle
free." He acknowledges that it's still early, however, and that
results in the next year will say more about the overall success of
micropayments.
Other users go further in their praise for e-payments as enablers of
new kinds of Web content. "The promised land is filled with
micropayments," gushes David Vogler, a digital-entertainment
executive formerly in charge of online content at Disney and
Nickelodeon. One of Vogler's current ventures is a humor site called
CelebrityRants.com. There, using Peppercoin's software, you can buy
animated recordings of embarrassing diatribes or confessions from
celebrities caught on tape -- everyone from Britney Spears to new
California governor Arnold Schwarzenegger. "We explored many
solutions, but Peppercoin seemed like the right horse to bet on,"
says Vogler. Moreover, he adds, it was "insanely easy" to get the
system up and running. That and a painless consumer experience seem
to be the keys to early adoption.
So this is how it starts: not with a conglomerate of media giants
adopting micropayments, but with pockets of small entertainment and
Web-services sites. Plenty of sites will still be free, supported by
advertising, says Carney. But micropayments, alongside ad sales and
subscriptions, will become another leg of the stool that supports
Web businesses. And micropayment companies are hoping that their
systems will give entrepreneurs and consumers the freedom to try out
new kinds of commerce on the Web, and to buy and sell an ever wider
variety of digital goods. "The Web was dying," says Kurt Huang, CEO
of BitPass, a micropayment startup he cofounded while he was a
graduate student at Stanford University. "We needed to do something
to change its economics."
Take Web comics. Today there are more than 3,000 online cartoonists
worldwide, and that number is growing fast, says Scott McCloud, an
author and Web comic artist based in Newbury Park,
CA. "Micropayments are the missing piece of the puzzle," he
says. Using a beta version of BitPass's technology -- users prepay a
few dollars into an account -- McCloud sold 1,500 copies of his
comics for 25 cents each in eight weeks. Not huge numbers, to be
sure, but the potential for steady growth is there. And it's not
supplementary income -- this is how Web artists will make their
money. "We're not just slapping a price tag on what could be free,"
says McCloud. "This is allowing us to do work that we couldn't do
before."
The Coin-Op Web?
In the 1990s, e-payment startups like DigiCash, Flooz, and Beenz
crashed because dot-com companies didn't think they needed the
technology to make money, and because consumers expected Web content
to be free. Times have changed, but there are still plenty of
skeptics who doubt micropayments will catch on broadly, considering
that MP3 listeners and Webcomics fans are the technology's main
U.S. consumers so far. Even those who have made their fortunes in
the online-payments world acknowledge that it's an uphill
battle. "It's quite possible they could fail miserably in this
economic climate," says Max Levchin, cofounder and former chief
technology officer of PayPal (see "The PayPal Precedent," p. 33).
But both the supply of digital content and consumers' willingness to
pay for it are increasing, and the micropayment companies' strategy
of signing up Web merchants, one at a time, has promise. "There will
be small companies who figure out how to play this chicken-and-egg
game," says Andrew Whinston, director of the Center for Research in
Electronic Commerce at the University of Texas at Austin. "The key
is to become successful before big companies like Microsoft get into
it."
For a glimpse into the future of micropayments, look overseas. In
Japan, most mobile content and services, such as cellphone users
downloading games and ring tones, are paid. And micropayments are
becoming prevalent in Europe's publishing and news-media
markets. Firstgate Internet, a digital content distributor in
Cologne, Germany, has nearly two million customers and 2,500
clients, including British Telecommunications' Click and Buy, and it
is bringing in more than $1 million a month in revenues, says
founder and chairman Norbert Stangl (see "First Out of the Gate,"
this page). Its most successful kinds of low-price content: news,
research articles, and financial reports.
But Firstgate tallies each purchase separately and pays credit card
fees, so its own fees are higher for merchants than most
micropayment startups'. Peppercoin and BitPass hope to succeed in
the U.S. market by being more efficient for small payments. So will
micropayments take off here? "The truth is, nobody knows," says Guy
Kawasaki, CEO of Garage Technology Ventures, a venture capital firm
that is funding BitPass. "But I look around and I see 50,000
unsigned bands in the world. I see thousands of bloggers, analysts,
and artists who want to publish their stuff. And how many databases
would you want to search for 50 cents?" Asked when he expects to see
a return on his investment, the former Apple guru laughs and says,
"Before I die!"
Other observers see a clear path to adoption. "The future of
micropayments is very simple," says Sun's Papadopoulos. "You'll get
to a critical mass on the network. It will become the equivalent of
pocket change, and you'll see fierce price competition on digital
content." Falling prices, companies hope, will only increase
demand. And as digital content gets cheaper, the temptation to
pirate should diminish.
We're already seeing competition: last summer, the music-download
store BuyMusic.com put up billboards parodying Apple's music ads and
undercutting Apple's 99-cent pricing by selling songs for as little
as 79 cents. With America Online, MusicMatch, and Roxio (Napster
2.0) launching stores as well, the music industry will be a proving
ground -- or perhaps a killing field -- for e-payment technologies.
As the contest begins, most micropayment startups have enough
capital to see them through the rollout phase. In September,
Peppercoin announced that it had raised $4.25 million in its second
round of venture funding. But in the long run, how will micropayment
companies stay in business? Signing up Web merchants is fine now --
deals are quick and the need is there -- but an eventual goal is to
hook up with a distributor that will become the eBay of bits.
So as Peppercoin makes final preparations for its commercial launch,
Carney and Solomon make sales calls. Engineers sit on the edges of
their seats, watching the ebb and flow of processing loads and user
levels on their monitors. Rivest and Micali, ever patient, stay out
of the limelight. If victory arrives, it won't come thundering out
of the sky. For companies like Peppercoin, success will build up
gradually, like coins clinking into a piggy bank, one by one.
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