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Innovative Finance Services in Light of Regulatory and Legal Requirements

Key Facts

  • eBay‘s new payment processing system postponed until 2013

  • BaFin demands license for processing financial transfers

  • Difficulties in implementing and adapting innovative concepts

  • Legal problems of crowd-funding platforms

  • Possible strategies for implementing and expanding innovative services

Report

Regulations and regulators play only a marginal role in most thinking about innovative developments in the market for financial services and in the self-perception of many new concepts. However, the true importance of these institutions and their sometimes complicated material recently became very apparent to eBay. The introduction of its new payment method in Germany had to be postponed until next year due to demands by the Federal Institution for Financial Services (BaFin).

This specific case focuses on whether eBay requires a separate license for its new payment method. The innovative aspect of this method consists of the fact that the customers no longer transfer the sum of the payment directly to the vendor, but first to eBay. After receiving the payment, eBay informs the vendor of the receipt of the money, and the vendor then sends the article to the customer. eBay then transfers the money to the vendor within a time period agreed to by both parties. The goal of the new payment method is to increase the safety of payment for customers and merchants and to offer one single payment method for all eBay transactions.

While eBay had received assurance from the CSSF, the regulatory agency in Luxemburg, that no special regulatory demands applied to this service, the BaFin recently informed the company that it believes otherwise, and has therefore stopped the new payment method in Germany. According to the BaFin, it regards this movement of money between customers and merchants as a “money transmission”: “the commercial procurement of payment orders for a contracting entity to a recipient via physical transport of cash or via cashless payment methods” (Administrative Court Frankfurt am Main, Decision of June 4, 2009, reference number 1 K 4151/08.F). As a result, the German agency requires that eBay obtain, not a banking license, but a license for processing money transmissions according to European payment services guidelines, which are implemented in the German Payment Services Monitoring Law (ZAG). The corresponding demands revolve in particular around the issue of how customers’ money is secured in the case of bankruptcy. eBay can obtain the license itself from the Luxembourgian authority due to the freedom of services and establishment in the EU. The fact that this process will nonetheless take some time can be seen in the fact that eBay has postponed the introduction of its new payment method until 2013.

This prominent case of a big player clearly demonstrates that regulations and regulatory agencies, with their many-layered matter, play an important role. One can draw a lesson from this case in particular regarding innovative concepts in the market for financial services: New concepts cannot simply be implemented – companies must take specific legal and regulatory conditions into account. This lesson also draws attention to the fact that products and services that are successful in specific markets cannot simply be transferred to other markets.

Legal considerations regarding the general terms of business for providers of crowd-funding platforms have come to similar conclusions. Studies have shown (specifically in the cases of Startnext, VisionBakery, Pling, MySherpas, Inkubato and FriendFund) that these portals are often scrutinized regarding the fiduciary management of project funds, the appropriation of the funds obtained by projects, and the agreement of project creators to a donation. From the legal side, there are also calls here for providers of such platforms to obtain a BaFin license: both to ensure legal compliance and to build trust. This trust is related to both the projects seeking funding as well as the investors.

As a result of the temporarily failed introduction of eBay’s new payment method and the problematic implementation of crowd-funding platforms in Germany, the question arises regarding which strategies growing innovative concepts should pursue in light of legal and regulatory requirements. The following three options are of particular interest in this regard:

  • A first strategy consists of the simple transfer of successful concepts to new markets. As shown in the case of eBay, the difficulty here lies in accounting for the unique aspects of those markets in which the new service is to be situated.

  • By contrast, a second strategy consists of continuing to develop an innovative concept in a certain market in order to gain experience through the increasing market penetration in this area. The concept is then transferred to select markets, whereby the respective unique aspects of those markets are taken into consideration. iZettle is currently pursuing this strategy by first gaining experience in Scandinavia in order to then offer its products in Great Britain and now also in European markets.

  • A third strategy consists of rolling out a concept with the help of local and regional partners in the corresponding market. This method bears the advantage that the local partner can employ his specific market expertise in the collaboration. PayPal is currently trying to place its service in the Arab world with the help of regional partnerships.

Which of these strategies is the right one can only be decided based on the specific conditions of a situation and depends on which company wants to bring which innovations into which market. In general, these constellations draw attention to the fact that the more that innovative services change the financial services market in the long run, the more they must engage with legal and regulatory requirements and unique features.