The fundamental business model of PayPal is "seller pays for the right to acccept payments in a risk-free (or at least risk-reduced) transaction", which means that it charge the sellers low enough rates to attract them, while losing little enough money on the risk management part to be able to make a profit. PayPal enables people to exchange money instantly without having to open expensive merchant accounts to accept credit cards. Sellers who accept credit card payments pay a 1.9 to 2.9 percent fee, plus a flat 30-cent-per-transaction surcharge, which adds about another half a percent to the tab for the average PayPal transaction of $50. That's because traditional credit card companies charge online merchants even more. PayPal's revenue totaled $417 million in Q4 2006, up 37%, and $1.441 billion for the year. The company achieved this with a very competitive business model, by having the appropriate security systems in place to check frauds, by consistently offering new services, and by expanding its network.
The secret behind PayPal's low fee structure was having a low cost way to authenticate a customer's bank account. They came up with the idea of making two random deposits of less than a dollar into a customer's regular bank account, creating a four digit password that a user could enter into PayPal to authenticate that bank account. It cost them ...
This detailed posting describes Paypal's business model. It explains as to why it become such a success when other forms of digital cash failed and looks at the main drivers of its success.