Square's New Fee Structure Could Alienate Small Businesses, Open the Door for Paypal

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Mobile payments processor Square has been the go-to for many small businesses over the past few years. The company -- founded by Twitter alum Jack Dorsey -- has grown a rabid user base on the simplicity of its payments system. For small businesses, you could pay a $275 monthly fee and not pay any transaction costs , allowing businesses to budget more easily. Last week, the company announced that it was no longer interested in having that strength.

Square's new fee structure
Instead of the flat monthly rate, businesses will now pay a fixed percentage per swipe of 2.75% . The company said that the change in pricing was due to customers' concerns "that caps and limits in the program were inhibiting growth. "Before the change, businesses that accepted less than $250,000 per year could opt for the flat monthly rate. That made the option perfect for companies that took in between $120,000 and $250,000 .

In a lot of ways, that was Square's unique selling point -- a sweet spot for small businesses. Now it's simply competing with eBay's PayPal payment program and other similar services. PayPal charges a 2.7% flat rate, beating Square out . Many retailers have already said that the loss of the flat plan will cost them money, and that they are being approached by competitors for their payment business .

The upside
A flat fee model is rare in the payment world because it's not the best idea, many argue . The flat fee is effectively a bet on the amount of money that a business will take in, and companies that took in less than $120,000 with the old Square plan were taking a hit. On the other side, Square was betting that the overall pool of customers would balance out the fee per transaction. Clearly, that wasn't happening.

Revenue at PayPal has been on steady march, up 19% last quarter on the traditional fee model . Square's growth has also been rapid, but with a potential 2014 IPO, the business is looking to jump as far ahead as possible. This year, the company will likely process $20 billion worth of transactions, earning around $550 million, according to a report from the Wall Street Journal .

The winners and losers
Square's move has a certain amount of bad press associated with it, but it's probably the right decision for the business. The flat monthly fee program got a lot of small businesses to try out the service and generated a lot of press around innovation. With the company swinging back from that decision, it's going to take a small hit, but the long-term gains have probably already been locked in. Customers are often loath to switch between payment providers due to the costs associated with a switch.

This is good for Square and it's going to be good for the IPO. The only thing to watch out for would be big moves from competitors looking to grab market share by picking up disaffected Square businesses with some new flat rate plan.

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The article Square's New Fee Structure Could Alienate Small Businesses, Open the Door for Paypal originally appeared on Fool.com.

Fool contributor Andrew Marder has no position in any stocks mentioned. The Motley Fool recommends eBay. The Motley Fool owns shares of eBay. Try any of our Foolish newsletter services free for 30 days. We Fools may not all hold the same opinions, but we all believe that considering a diverse range of insights makes us better investors. The Motley Fool has a disclosure policy.

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