Credit cards

Square brought credit cards to small merchants and survived Amazon

Jim McKelvey, who co-founded Square with his friend Jack Dorsey, didn’t just create a hugely successful innovator in card payments and survive a competitive attack from Amazon, he wanted to understand what made it successful. . And he wanted to see if Square had developed any principles or skills that might be applicable to other businesses.

So he spent three years researching the recently released book, The Innovation Stack. He probably didn’t write it for the money; Square, now named Block, has a market capitalization of around $56 billion.

Pretty impressive for a company that started after he lost a sale at his glass blowing business in St. Louis because he couldn’t take American Express. His research into the card industry revealed bewildering complexity: 50-page contracts, fees that added up at the end of the month so a merchant wouldn’t know how much he would pay, clumsy and expensive card readers. .

Then he came across a mundane report from the Federal Reserve Bank of Philadelphia that showed, if you could read the charts, that small merchants paid 45 times more on card transactions than large merchants.

“There were 5.2 million small traders who desperately needed help. They were being sprayed by the established processing companies,” McKelvey wrote.

The Square team wasn’t looking to create a stack of innovations, they were just trying to solve the problems that arose when creating hardware and software that enabled small businesses to accept credit and debit cards. . After just one year, Square had millions of customers and payment volume was growing an average of 10% per week, and that lasted nearly three years.

It wasn’t a deal taken away from Visa and Mastercard, it was a deal they never pursued, McKelvey writes.

“At some point, the market ends. There is also the point where entrepreneurship begins. The end of a market is like a border that no one can cross. Beyond this area is also uncontested terrain, which is quite odd. All other parts of a market have fierce competition. And every inch of land, given up by one company, is immediately grabbed by another, but right after the market bottoms, prices are so low that no one is fighting for that turf.

The boundary was around $10,000 in annual sales. Any merchant who sold less than that was effectively barred from taking credit cards – card costs were too high for small businesses to be profitable.

But Square didn’t go unchallenged, and the threat was real, because it came from Amazon.

“Then the doorbell rang and Jeff Bezos delivered a severed horse’s head for free via a two-day shipment. Amazon had copied our material (albeit in the form of a black rectangle) and reduced our price 30% off and offered live customer support.

Square needed a quick response, but it couldn’t find an example of a company successfully pushing back on Amazon.

The council decided not to do anything different. Square continued to do what it had done, focusing on customers rather than competitors.

“We had no idea how incredibly powerful our innovation stack would be compared to the competition. We didn’t even know we had one.

It wasn’t until Amazon pulled out of the field that McKelvey began to examine what had made it successful, against significant odds.

“An innovation stack is not simply a list of independent changes to an existing business model,” McKelvey wrote. It is built-in and each block in the stack only works in conjunction with all the others. That’s what makes it so hard to copy.

Square’s key ingredients and list show how they are interrelated and interdependent:

1. Simplicity, starting with a known price, a percentage of the transaction, no hidden fees, no transaction fees even though Square paid transaction fees to card networks.

2. Free registration. “Our pricing model could only work if we grew quickly, so to create a fast and frictionless experience, we made registration free – another industry first. This enabled millions of merchants who might be curious about Square trying it out. Free is a magic prize: you never have to explain free.

3. Cheap material. The cheapest portable credit card reader on the market costs $950. The original Square drive cost 97¢ to build. When Square sold the player through Best Buy and the Apple Store, it included a processing credit equal to the retail cost.

4. No contract. “Since we weren’t trying to lock customers into a long-term agreement, we didn’t have to add fine print to our user agreement.”

5. No live support. Customer service by email only. “It was not just a way to reduce our costs, it forced us to develop more innovations to further reduce the need for customers to contact us.”

6. Nice software. “Our users have become our sales force. The Square experience, from hardware to software to our website, was so good that people started talking.

7. Nice material. “We then took our 97¢ player and packed it in a $2 box. The effect was like receiving a jewel.

8. Prompt Settlement. Payments were made same day or next day, breaking all industry speed records. “Speed…delighted our customers and kept us growing, but more importantly, it took away all those ‘Where’s my money?’ » support calls.

9. Net Settlement. “Our simple pricing allowed us to know how much to send to the merchant, which we did on a daily basis.”

10. Low price. Most small merchants were paying 4%, Square’s 2.75% fee “spread through the small business community like a cold in a kindergarten classroom.”

11. No Advertising. “Square grew 10% every week for two years without advertising.”

12. Online Registration. No paperwork, no credit checks.

13. New Fraud Modeling. Square had so much data that it could use data science and game theory to fight fraud, even if the banks didn’t believe it and wouldn’t take the risk.

14. Accountability. Using excellent fraud modeling, Square could shift credit risk from a merchant business to its own balance sheet. “We finally welcomed over two million new merchants to our balance sheets and to a new base of the credit card pyramid.”

Working together, these components constituted a stack of innovation that was difficult for a mainstream player to copy.

After failing to find much innovation in his survey of contemporary businesses, McKelvey turned to history and found a few examples – Bank of America when it started as Bank of Italy, Southwest Airlines and IKEA.

“The Bank of Italy created a stack of innovations so powerful that it became the largest bank in the world…it opened the world of finance to hundreds of millions of people and built much of the western United States of America.”

All three companies focused on their customers. Only IKEA opted for a low-cost model. McKelvey detailed his innovation stack.

1. Catalog Showrooms

2. Overseas Manufacturing

3. Efficient factories

4. Self-assembled furniture

5. Custom design

6. Interchangeable parts

7. Global Supply Chain

8. Warehouse Showrooms

9. Winding Paths

10. Food and childcare

11. Small prices

The Innovation Stack is an enjoyable read with fun anecdotes and digressions, and insight into how Square was developed.