Who’s bigger than Mark Zuckerberg? Matt Drudge, that’s who

Matt Drudge is still the king of the hill when it comes to online news. From my new GigaOM editorial, Why Matt Drudge Still Beats Mark Zuckerberg:

Facebook is closing in on 700 million users, but according to a new study by the Pew Research center, the Drudge Report sends more than twice as much traffic to the nation’s top news sites…

Forget the wisdom of the crowd. When it comes to online news, Matt Drudge is the one friend that news outlets really need to have.

Given how news outlets have struggled to adapt to the rise of the web, this should make Matt Drudge a hero. He’s sending outrageous amounts of traffic to traditional news outlets, giving them a chance to monetize their professionally generated content. But if you mention Matt Drudge in the tech world, the best you can hope for is a smirk.

I go on to make the case that Drudge deserves credit for being a truly great web pioneer, and that others online news entrepreneurs who’ve had big pay-days (such as Mike Arrington and Arianna Huffington) owe a debt of gratitude to the trail blazing Drudge, who helped change the way we consume news.

“PayPal Mafia” Summit Convenes in San Francisco

Angel investor Dave McClure assembled several dons of the “PayPal Mafia” on-stage Tuesday night for a Startup2Startup event in San Francisco. The panel included Max Levchin (Slide), David Sacks (Geni and Yammer), and Jeremy Stoppelman (Yelp). With a lineup like that, my CapLinked co-founder Chris Grey and I made the pilgrimage up north from L.A. to catch the show.

Dave capably moderated this group of heavy-hitters — Max only chastised him once for a stupid question — and the audience was treated to some insightful and candid discussion. I jotted down a few highlights from the panel:

Former PayPal colleagues Dave McClure and Aman Verjee showing me some love after the event.

Why have PayPal alumni started so many other companies?

By all accounts, it’s a pretty impressive list of companies and organizations started by PayPal people. The group pointed to several reasons. First, the company was “stress tested” by assaults from multiple competitive, legal, regulatory, and operational threats (hence the title of my book). This process promoted innovation and prepared employees for the future rigors of starting their own companies. David Sacks noted that the company’s recruiting was viral — Peter Thiel brought in people from Stanford, while Max hired engineers he knew from the University of Illinois at Urbana-Champaign. This lead to higher quality recruits than if we had relied on recruiters or job placement ads. With one of the best lines of the night, Max pointed to the company’s hiring philosophy as a reason for the Mafia: “The best employees are the ones who feel this is the last time they’re going to work for someone else.”

How did working at PayPal help you innovate with your current startups?

Even though Eric Ries’ lean startup methodology had not been developed at that time, David Sacks said that PayPal had a form of agile development before the concept existed. The product focus was on iteration, not perfection, which let PayPal pivot both its platform (going from Palm Pilots to the web) and market vertical (from person-to-person payments to online auctions). David called Yammer the ultimate pivot, noting that it was a spin-off from an internal tool developed at Geni. Jeremy said that from day one at Yelp he was focused on “what will we have to pivot on,” enabling him to fine tune the company’s business model.

Now that financing is stabilizing, were startups right in rushing to raise money before the crash?

Jeremy lauded prudence when it comes to financing, and said it’s generally wise for entrepreneurs to take advantage of financing opportunities when they have them. Max drew a parallel with PayPal’s experience in 2000. As the NASDAQ neared its peak in April of that year, Peter Thiel rushed to close a $100 million financing round for the company. Within weeks the stock markets began to dive and financing for the tech sector dried up. Had Peter and his team not made that opportunistic decision, the company would not have had a long enough runway to fix the major problems with its business model and get fraud under control. Max said that experience shaped his thinking again in 2007, when he sensed that markets had become frothy and a hard landing was in the offing.

How do you measure success?

I’ve heard Dave McClure make the point that choosing the right metrics is one of the most important things a startup CEO must do, so this question wasn’t a surprise. Max said it was how many lives you impact with your service. Jeremy said it was staying relevant in a constantly changing world. David said it was whether or not your company achieved its mission.

Which company is the most entrepreneurial: Facebook, Google, or Apple? (Hint: Let’s hope Steve Job’s health holds up.)

The panel punted on this question, so Dave took a poll of the audience. Claiming that companies that keep their founders active tend to be the most innovative, Dave asked which of Silicon Valley’s hottest companies was the most “entrepreneurial.” While admittedly an unscientific poll, the results were surprising: Facebook trounced Google in a 2-to-1 landslide. But even more surprising, in a room of over 100 entrepreneurs, Apple didn’t get a single vote. Perhaps Apple’s PR team has oversold the brilliance of Steve Jobs?

PayPal Mafia Confidential: Giacomo DiGrigoli, Yammer

The so-called PayPal Mafia has gotten a lot of press recently. My former colleagues have gone on to start, run, or fund an incredible roster of companies, including Yelp, Founders Fund, YouTube, LinkedIn, SpaceX, Facebook, Tesla, Palantir, Geni, Kiva, Slide, and Yammer. Clearly, something was in the water at my old company.

While I wrote about my experiences in my book The PayPal Wars, a book can only capture so much information, and that narrative only recorded my perspective. So, over the months to come, I plan to interview some of the amazing entrepreneurs whom I was fortunate enough to work alongside at PayPal. Many of them are well known, and others have been working behind the scenes, but they all have valuable insights to share. Since I’m on the strategy/product marketing end of the spectrum (as opposed to branding), I’m christening the series with the predictable yet appropriate name: “PayPal Mafia Confidential.”

My first interview is with Giacomo DiGrigoli, who served as PayPal’s first product manager for international payments, and most recently he was a product manager at Yammer. Giacomo graciously shares his lessons from working at PayPal, trends in Web 2.0 startups, and the differences in starting a company in L.A. versus Silicon Valley.

Eric: I had the pleasure of working with you at PayPal, where you were the product manager in charge of building PayPal’s international service. People may not appreciate how complex PayPal is behind the scenes, but building the international product was a massively complicated undertaking. Looking back, what lessons can be drawn from this product launch?

Giacomo: First off, the feeling is mutual — it was a pleasure working with you as well.

Building and launching PayPal’s international service, including the multiple currency platform, was indeed a complex project with many hidden moving parts: multiple countries, languages, regulations, currencies, etc. Not only did we tackle the intricacies of designing, building and marketing a new consumer-facing product, but every one of our internal and technical back-end systems also needed to be upgraded from the ground up to account for new functional requirements, including operations, analytics, chargebacks, and fraud detection.  On top of that, PayPal was already a significantly popular product with millions of active users, quickly becoming the ecommerce lifeblood for much of the web.  There was very little room for error.

The most valuable lesson I took from that experience was one that many startup entrepreneurs are familiar with: build small and simple, and iterate fast.  We rolled out the project in small stages, building on user feedback to offer direction for next steps, and to mitigate the operational and technical risks of relaunching PayPal’s core platform to accommodate our international users.  We cautiously measured each step to insure for PayPal’s longterm international success and to insure as little disruption as possible.

I learned that there’s almost no such thing as too much communication between team members, especially when handling a change as large as what we had on our hands.    For months, we prepared our teams for a massive change to our systems, planned for the worst and hoped for the best.  We communicated each change clearly to our entire organization, and worked closely with teammates in marketing, operations, legal, customer service, analytics, and fraud operations to constantly insure that any changes we made to the product wouldn’t create any disruption to our millions of users.   We prepared for a massive onslaught of customer service issues that would backlog us for weeks.  For the tremendous revenue uptick and success that the product turned out for PayPal, I’m proud to say that the multiple currency launch was one of our best received, least disruptive launches.

Lastly, I learned the importance of trusting your teammates and delegating responsibilities across an organization.  At PayPal I had the pleasure of working with some of the most talented and dedicated designers, coders, marketers and business minds in the valley (and in our operations center in Omaha, NE).  Without the solid dedication and extraordinary talents of those team members who welcomed the massive challenge of this project with open arms; whose leadership, sense of ownership and willingness to share in a grander vision for PayPal in their respective portions of this product launch made an immeasurable difference, this project simply would not have been possible.

Much has been said about the competitive, fraud, and legal obstacles PayPal had to overcome before it finally became profitable, IPO, and eventually be acquired by eBay. To what do you attribute PayPal’s success?

Well, much has been said and written about the extraordinary talents of PayPal’s management team (Peter Thiel, David Sacks, Max Levchin, Reid Hoffman, Roelof Botha, etc.), and the significant contributions made by PayPal’s product, design and development teams, and I would agree wholeheartedly that our spectacular leadership played a significant role in PayPal’s success, so I won’t spend much time discussing that.  Instead, I’d like to focus on the team dynamics that I believe played an equally important part of PayPal’s success.

One of the things that made PayPal such a unique and uniquely successful product was our extraordinary team culture.  Our team not only enjoyed the work we were doing, but genuinely enjoyed one another’s company.  We trusted one another. We challenged one another as much as we challenged ourselves. We had culturally and professionally diverse points of view, sometimes completely at odds with one another, but we were always respectful of one another’s viewpoints.  We shared a collegial spirit of learning and teaching one another new things, and learned from our differences.  We made decisions, weathered mistakes, took on new exciting challenges and ultimately enjoyed our successes (and setbacks) together.   Our management team trusted us to make decisions, and we in turn took that trust to heart with a deep respect for the opportunities we’d been handed.  We were a team with clearly defined goals and responsibilities, and we took our work seriously.  We were connected closely to our customers (and in some cases, we were our own customers).  We cared.

Very often you hear of startup teams that are unmotivated, lack direction or inspiration, or just don’t click with one another on personal or professional levels.  To me, that’s the kiss of death for a startup.   If you walk into a room and it feels like a pall is sitting over that group of teammates, that no one is enjoying their work, or that people just aren’t enjoying one another, then you might as well close up shop.  The odds are already stacked against a startup the moment it’s created —  if your team can’t find the inspiration and joy in working with one another, it makes the rough times even harder, and the good times less pleasurable and motivating.

I think a large part of PayPal’s success, especially in the bumpiest parts of the road, came down to the fact that everyone who was there genuinely believed in one another, believed in our product, and enjoyed the challenges each day brought us as a team.  I’d encourage startups to always remember that:  you should be there because you WANT to be there, and because at the end of the day, you really love and are passionate about what you’re doing.  Otherwise, it’s just not worth it.

Over the past few years, you’ve played a key role in launching a pair of Web 2.0 startups, Geni and Yammer. In what ways have starting Web 2.0 companies been different from starting their Web 1.0 predecessors?

IMO, it’s a heck of a lot easier to start a new tech company today than it was ten years ago (or maybe I’m just ten years older). First off, there’s been quite a bit of development in the enterprise space specifically geared towards helping new startups and small companies communicate, build, launch and learn about what competitors are doing than there were a while back.  Whenever I have a technical issue that I think might slow down my progress, I can easily find a product that solves even the very specific niche issue I’m having and move on.  I can consult tech blogs like TechCrunch, TechMeme, etc — resources that really didn’t exist in earnest a while back — to discover what’s going on, find new products, etc.

Enterprise communication has also taken off, as evidenced by products like Yammer, SocialText, Chatter, etc. It’s much easier to effectively and quickly communicate within an organization than it was when you had to email your questions back and forth. Things are much faster now.

I also think that with ease of development comes greater expectation from consumers.  I’ve noticed far less tolerance for bad design from the every day consumers using language that was previously only used by designers and developers.  When my 13-year-old niece complained that “Facebook’s new newsfeed UI sucks; I hate it!”  I knew that consumer expectation was growing just as fast as our ability to launch new and interesting products.   So, with ease of development and great new technologies like AJAX, the ubiquitous use of Flash, etc, comes greater responsibility for great products.

Yammer has really taken off, and it’s done so as one of the few social media companies with an enterprise focus. In fact, the very term “social media” seems to connote communication services for friends, as opposed to tools that can actually enhance workplace productivity. Do you think that enterprise-level development is a good business opportunity for Web 2.0 companies, or is Yammer the exception to the rule?

Absolutely.  I think new enterprise products (social or otherwise) have only just begun to become commonly used in many organizations, and there’s still quite a ways to go to make these new tools as effective and ubiquitous as other tools (like email).  In many ways, I think these tools are slowly supplanting the majority of the need for email, intranets, etc.    But I still think there are tremendous inefficiencies within the enterprise space that still need to be solved, beyond improving communication.  Areas ranging from hiring and retaining talent to payroll to investing in new technologies to corporate development still need to be mined for better solutions.  I’m still shocked at how long some seemingly simple enterprise tasks take – there’s a mountain of opportunity here.  Any time you’re annoyed or shocked by something while working, that’s almost always an enterprise opportunity around that.

Switching gears back to PayPal, without a doubt it’s the undisputed leading service for selling physical goods online. But as the web becomes more social and virtual goods grow in importance, do you see a role for PayPal as a Web 2.0 payments provider? Or will Facebook (or some other competitor) eat their lunch?

I recently attended the PayPal X Developer conference, and it looks like PayPal is making some significant inroads with the development community.

I think the game is still on here.  Facebook has certainly made some strides with its platform, and including a full-fledged payment option would certainly be a threat to PayPal’s continued growth.  But until/unless the basic platform of the web fully switches from the web to Facebook, or an OS, or a browser, I think there’s still an opportunity here.

The risk for everyone involved, of course, is the same one that PayPal faced playing on a platform owned by a 3rd party.  eBay certainly didn’t make it easy to be a successful 3rd party on its platform, and certainly we’ve seen evidence of this on other platforms as well (e.g FB’s constantly changing platform, rules, distribution & emphasis on apps, etc).  The argument on the flipside, of course, is the same one that lead to PayPal’s success:  sometimes it takes a 3rd party to focus on complex tools (like payments) to really make them work reliably well.

I think it’s really still anyone’s game in social/Web 2.0 payments, especially in the platform/virtual goods and mobile payments space.   I’d also keep an eye on innovative payments products like Jack Dorsey’s Square – there’s still a chance for something completely out of left field to surprise everyone.

What was it like launching two internet startups in Los Angeles, and how was that different from Silicon Valley?

I may get some flack for this answer (especially from the likes of LA cheerleaders like Jason Calacanis), but I think startups in the valley are significantly easier to put together initially than their LA counterparts.  There’s no question that the opportunities available to entrepreneurs in the valley are much greater than in LA: tech meetups, conferences, VCs, finding coding talent, etc.   I tell people that starting a tech company in LA is like making a movie in the valley:  sure you could, but why would you want to?  Everybody else who’s seriously working on tech is in the valley, and everybody seriously focused on entertainment is in LA.  You’re stacking the cards against yourself.    That being said, LA has certainly produced some great products as well. It’s just a little bit harder than in the valley.

Likewise, I also think that over the last few years, we’ve seen some great innovation internationally as well.  Thought leaders in Europe are making new strides — people like Loic LeMeur at Seesmic (and the Le Web conferences) are creating some innovative and interesting new products/designs.   So it’s not just about the valley anymore (but it’s still  my favorite place to work.).

What’s next for you?

I’m working on a small digital media publishing product with my good friend Holcombe Waller.  It’s really just a small garage idea at this point, but we’re enjoying our work, and thrilled about developing something fun and innovative that we enjoy using ourselves.  If anyone’s interested in a demo, I’ll be more than happy to share.  Stay tuned!

What is the Potential of Twitter’s Business Model?

Twitter is profitable. Twitter-haters, deal with it. And while you’re at it, write this down: you ain’t seen nothing yet.

Twitter still gets a bad wrap from many pundits and non-users because they don’t understand the service. The common objections (e.g. What can you write in 140 characters? Who needs another service telling you what a friend is eating for lunch?) reveal a misunderstanding of Twitter’s functionality and how people actually use a real-time streaming platform to share information.

In reality, Twitter is a hugely valuable network of 93 million users that’s capable of generating a lot of money. Back in September I wrote that there was no reason to rush the monetization of Twitter, which had just received a $100 million investment at an implied $1 billion valuation. I made the case that Twitter was probably the third most important company for online content distribution (after Google and Facebook), which is hugely valuable because content sharing is the activity people spend the most time doing on the Web. I pointed out that there were so many ways to monetize the service, so Twitter’s management team was wise to focus on growth initially.

That wasn’t exactly revolutionary advice—many experiences entrepreneurs argue the same general point. Sean Ellis, from 12in6, writes on his blog that non-enterprise startups should wait until after they’ve achieved market fit to begin charging for their product. This was the same game plan we employed at PayPal; as I detailed in The PayPal Wars, we grew out our payments network before attempting to move business users to fee-bearing accounts.

That’s exactly what Twitter did. The search deals they inked with Mircosoft and Google this fall will give them a small profit for the year. And BusinessWeek reports that the company has additional plans after the New Year: “Twitter plans an advertising program for early next year. The company also will charge for commercial Twitter accounts that would let businesses analyze tweet traffic.”

I view those as cautious first steps toward monetizing a truly valuable and vast network. There are a lot of other ways to monetize the system that we could see down the road:

  • Featured users. A number of Twitter-based companies (e.g. FeaturedUsers) already sell sponsorships to help users add followers. While Twitter has a suggested user list, it’s mostly public figures and Twitter doesn’t sell placement on it. Why not let users pay to get more followers? This wouldn’t be spam, and Twitter could target recommendations so they’re relevant to the viewer’s interests.
  • Corporate accounts. Companies have different needs than individuals, so let them pay for additional functionality. In addition to the metrics listed above, let companies allow multiple users to tweet under their brand umbrella (e.g. customer service, marketing, etc.), which would give consumers more ways to dialogue with them. Twitter is the Cluetrain Manifesto put into practice.
  • In-stream sponsored tweets. This would probably be controversial at first, just like it was when Google began to feature ads alongside its search results. But if it’s done in the right way, sponsored tweets need not be obtrusive or diminish the usefulness of the network.

I could go on and on. This is just a cursory glance to illustrate my point—Twitter can potentially generate a lot of money. How much? To guesstimate this, I’ll use Facebook as a benchmark, since it has a little more public data and is further along on the road to monetization.

Facebook’s annual revenue run-rate soared from $500 million in July to $1 billion this month. With 350 million users, this means Facebook is currently generating around $3 in revenue per user per year. And Facebook is not even focusing on monetizing; board member Mark Andreessen noted earlier this year that growth remains that company’s primary goal.

I don’t think Twitter will monetize its user base as highly as Facebook because the latter has much more personal data, content, and user touch points. But since Facebook isn’t even trying that hard yet, the $3 per user metric is really just a floor. Over time, surely Twitter could monetize its own users to at least one-half of that amount. 93 million users times $1.50 in revenue per user implies about $140 million in annual revenue, which assumes no growth. This seems like a pretty conservative back-of-the-envelope goal.

But I think Twitter will do better. If its user base grows 30% each of the next two years, and Twitter is able to match Facebook’s current $3 in revenue per user, then in 2011 the company would be at a $471 million revenue run-rate (i.e. 157 million users * $3 each). Or, if you’re really bullish on the service, let’s assume that users grow at 50% each of the next two years, and the company can stretch revenue per user to $5, then it would hit $1 billion in revenue (i.e. 209 million users * $5 each) by the end of 2011.

That final estimate might be a stretch since Twitter’s growth has slowed down the second half of this year, but regardless this benchmarking exercise illustrates that Twitter has a lot of revenue upside.

Of course, revenue is only part of the equation. Let’s talk bottom line. The BusinessWeek article I linked to above says Twitter’s annual expenses are in the range of $20-25 million. Obviously this will have to increase as the company scales up over the next couple of years, as Evan Williams and Biz Stone staff up their company and incur additional expenses for sending out more SMS text messages. Let’s assume expenses quadruple and approach $100 million. That still leaves them with a net operating profit of $371 million under my second revenue scenario, and margins around 80%. Not bad.

Hopefully the recent profitability announcements by Twitter and Facebook will serve as a reminder that some business models—especially those that display a network effect—are best served by focusing on growth first, and monetizing later.

How PayPal Can Kick Facebook’s Butt

One day after Facebook casually announced that it had eclipsed the 350 million user mark, I’m going to revisit the question of who will succeed in developing the dominant Web 2.0 payment system.

In my previous post, I made the case that PayPal was better positioned than Facebook to achieve this, a position I stand by even in light of the latter’s staggering growth. As I noted, there are four reasons why it will be difficult for Facebook or any other competitor to unseat PayPal: 1) payments networks are incredibly hard to build, 2) payments are not a core competency of most companies so they’ll struggle to deal with the complexities of the market, 3) non-fiat currencies are a hard sell to consumers, and 4) a Web 2.0 payments network would have the most value if it’s also compatible with real world transactions. All of these points (especially the last one) suggest that PayPal is in the driver’s seat.

But being in the driver’s seat doesn’t mean you’ll cross the finish line, much less take the checkered flag. If PayPal wants to become the Web 2.0 payments network of choice, it has a lot of work to do. Let’s take a look at some of the strategic measures it would need to pursue.

First, PayPal needs to foster an ecosystem around it that engages developers, expands its influence, and decentralizes innovation. Fortunately that’s what the company has taken strides to do recently, with the PayPal Innovate09 conference and the launch of the PayPal X Developer Network site. So it looks like the company is enthusiastically throwing its support behind its API, a feature my former colleague Dave McClure was calling for back in 2002 when he was PayPal’s “director of geek marketing.” So the good news here is that PayPal is making strides to emulate Facebook and Apple, who’ve already reaped the benefits of an army of third party applications, but it still has a long way to go. Getting developers to further integrate PayPal into games, virtual goods, and other social applications is key to dominating Web 2.0 payments. Innovative companies like Payvment that are using the API deserve the company’s support—and maybe even some venture funding from PayPal. Google does it, and it wouldn’t be hard for PayPal to allocate a few million dollars from its annual cashflow into a payments-focused venture fund.

Second, PayPal needs to expand the types of payments its core functionality services. Currently, PayPal’s “send money” functionality lets you classify transactions as goods, services, and eBay items. Clearly this is insufficient for the Web 2.0 universe, where content or simulated goods are often the center of transactions. But the need to expand payment types goes beyond just slapping a few new categories into a radio box—PayPal needs to explore making payment types user-defined. If a social network wants to sell stored value units (e.g. how Slide charges “gold” for premium Superpoke actions) then PayPal needs to accommodate them. And there’s no way to accommodate the limitless ideas of social entrepreneurs except by allowing for user-defined payment types. But this should be part of the core functionality available to all users on the main site through both send money and website payments, not something that depends on developers building into third party apps.

Third, PayPal needs to make a vigorous effort to allow users to export their eBay Feedback and PayPal reputation scores out of the eBay marketplace and onto anywhere they’re needed on the web. The reputational information that eBay/PayPal has collected on its users’ behalf is hugely valuable—and under-leveraged. Reputation isn’t too important for many social activities like re-tweeting or even deciding who to friend on Facebook, but when money is involved that dynamic changes. If “social” payments are to become a significant part of ecommerce, they can’t be confined to transactions between friends. Counter-party reputation will help instill confidence and empower this form of commerce, and the information available to PayPal/eBay is something that Facebook, Amazon, and Google can’t match.

(Brief aside: I’ve long been an advocate of eBay liberating Feedback scores from its site and allowing users to port their reputation elsewhere on the Web, including homepages, blogs, and social profiles. Back in 2003, after eBay acquired PayPal, I informally pitched the idea of exporting Feedback to my new colleagues on the eBay side of the company but it failed to gain traction. I’m sure that was in part due to my own communication deficiencies, but I also encountered some “we don’t do anything to cannibalize eBay’s core marketplace” pushback. With their marketplace stagnant and PayPal acknowledged as the core driver of eBay’s future growth prospects, I doubt the dynamic would be the same today. Plus, eBay CEO John Donahoe and PayPal president Scott Thompson both seem to realize how important PayPal’s growth is to the future prospects of eBay Inc.)

Fourth, PayPal needs to enable users to tweet payments. The mechanism for sending money via Twitter could be pretty simple, and it’s important enough to be part of PayPal’s core functionality. To do this, PayPal will need to let users link their account with Twitter, something their users have already been trained to do by linking PayPal to their eBay account as well as banks and credit cards. Some form of verification would probably be required; the hurdle needs to be a bit higher than what it takes to synch up third party apps like TweetDeck due to security concerns. One way to do this would be for PayPal to send a unique code to a user’s primary email address, which they then have to copy into a direct message on Twitter to @PayPal.)

Once this is set up, tweeting money would be easy. I think the simplest way would be to send a direct message to @PayPal followed by a simple syntax that includes the recipient’s Twitter username, the amount, and an optional note. Using a DM to convey the send money instructions to @PayPal would preserve privacy for both sender and recipient. If the recipient has already linked his PayPal and Twitter accounts, he would then get a DM from @PayPal confirming that he’s got cash. If the accounts aren’t linked, he’d get tweeted a notice from @PayPal that he’s got cash (but no specifics on the transaction since tweets aren’t hidden), along with a shortened link to take him to PayPal’s site to claim it by linking accounts. This flow would be simple and elegant, and once the accounts are linked people could tweet money without having to login to PayPal’s site.

You might be asking, if the goal is to become the Web 2.0 payments gold standard, why focus on Twitter first, as opposed to Facebook? I think Twitter is the better forum for PayPal to go after right now for a couple of reasons. For one thing, integration would be easier given the open nature of Twitter’s platform. Also, the overlap in the Venn diagram of PayPal (78 million active users) and Twitter (93 million active users) should be close to 100%. Twitter’s users still skew toward the tech savvy and early adopters, whereas Facebook’s 350 million accounts are obviously less tech savvy on average because they look more like the world as a whole (i.e. there’s a lot of Baby Boomers using Facebook).

PayPal should have a significant portion of Twitter users linking their accounts within 1-2 quarters, which would give it a strong launch pad for going after the rest of the Web 2.0 universe. Think of what third party developers could build after users begin to link their PayPal and Twitter accounts on a serious scale. Also, capturing payments for the majority of the Twitter user base would also give Facebook a major disincentive to block PayPal from its site, which (like eBay before them) is a temptation they’ll probably face once PayPal starts playing in their sandbox.

This is by no means an exhaustive list of the steps PayPal would need to take to secure leadership in Web 2.0 payments. We haven’t even touched on pricing, much less Facebook integration. But it’s a good start.

Who Will Win the Web 2.0 Payment Wars?

Call it micro-payments, social networking payments, virtual currency, or whatever you like, but speculation is heating up as to who will develop a service that addresses Web 2.0’s payment needs.

PayPal claimed this mantle for the first incarnation of the internet. As I detailed in The PayPal Wars, when Peter Thiel, Max Levchin, David Sacks, Reid Hoffman, and the rest of our executive team made the decision in January 2000 to build our payments network on top of eBay’s ecosystem of buyers and sellers, we outflanked our competitors and identified the path that would let us scale to profitability. In doing so, our startup beat out Yahoo, Citibank, and even eBay itself (which jointly owned Billpoint with Wells Fargo) to become the de facto standard for selling goods online.

But the payment needs of the social web are different. Goods are generally virtual or content-related, and the transaction amounts are often small. (For example, Slide charges a $1 for premium SuperPoke actions, or gives you unlimited quantity for $4.99 per month. Contrast this with the $50 average transaction price we saw at PayPal.) Also, any payment solution would need to be tightly integrated with the social network it’s serving.

The need for social payments is growing. Case in point, Dan Gillmor asserts on his blog Mediactive that YouTube Direct (YouTube’s platform to let news organizations collect user-submitted videos) would also benefit from a payment system. Dan points out that this would allow content providers to reward their followers for providing them with monetizable content.

A couple of Twitter-centric payment services have already sprouted up; Twitpay and Twippr both leverage PayPal’s platform to allow you to tweet money. (See this Squidoo post for a helpful comparison.) TipJoy, another company that specialized in Twitter payments, is shutting down.

Of course, it’s Facebook—the most important social network site—that’s attracting a lot of attention in the payments discussion. Mashable’s Pete Cashmore writes that Facebook itself could become the micro-payment service of choice for content providers. Noting the proliferation of virtual goods on the social networking system, as well as the many media companies now participating in Facebook Connect, he concludes that Facebook (which has a beta virtual currency in beta mode) has a better chance to build this platform than PayPal, Google, or Amazon.

TwoFish’s Lisa Rutherford provided a nice overview of the marketplace a few months ago for VentureBeat. She saw PayPal, Amazon, and Google as potential players, but seems to suggest that it’s unclear if Facebook will make a full court press to dominate this space. However, it looks like that’s exactly what Facebook is doing; I’m told that they recently hired a couple of highly respected ex-PayPal guys to work on their payments team.

Facebook is certainly formidable. Nonetheless, I still think PayPal should own this space. Here are some reasons why:

First, a payments network is not easy to build. Even if you have an existing network of users that you can leverage, the back-end is a lot more difficult than a content-based service.  Fraud risk, funding costs, and customer support are all major factors that we underestimated in terms of complexity or cost as PayPal was scaling. As I noted in my book, PayPal was bleeding $10 million per month back in 2000 while we struggled to fix our business model, and that was before the company had scaled to any significant size.

Second, just because a company is good at its core business doesn’t mean it will be good at payments. Facebook is an amazing company, but that’s no guarantee that it can leverage its social leadership to build a scaleable payments network. Google hasn’t been able to do it with its Checkout feature, and despite the elegance of One Click, Amazon has never been able to get much traction with payments off its own site. If a competitor has a better product, users will opt for the competitor. The case of eBay’s own users refusing to adopt Billpoint in favor of PayPal illustrates this.

Third, non-fiat currencies aren’t an easy sell to consumers. Ask Flooz. Ask Beenz. These two early, would-be PayPal competitors occupy spots #2 and #3 on Business Pundit’s “25 Internet Startups That Bombed Miserably” list. (If not for “Startup.com,” they might’ve ousted GovWorks from the top spot.) While many people think that the time is ripe for a virtual currency, there’s no hard evidence of demand for a system of value not based on fiat money. Cash is still king, and that’s a major obstacle for companies like Facebook opting to build a virtual currency.

Fourth, the implicit assumption that a Web 2.0 payments network doesn’t need to be compatible with transactions happening in the real world is false. Backwards compatibility is important for any platform—just ask an Office 2003 user who’s received a .docx file. The utility of a payments system is immensely greater if the network encompasses not just the up-and-coming world of social/virtual transactions, but also some chunk of the $30 trillion in annual consumer payments worldwide. PayPal already moves $2200 USD per second through its servers; that’s a nice head start.

Building a payments network is difficult, and it’s not clear that Facebook or any other competitor will be able to leapfrog over PayPal and build the defining platform for Web 2.0. However, if PayPal wants to seize leadership in this space, it has a lot of work to do. We’ll explore that in a future post.