Accidental disruption: Max Levchin discusses how close PayPal was to never existing at all

By Michael Carney , written on March 13, 2014

From The News Desk

PayPal’s status as one of the most successful pre dot-com crash companies is beyond dispute. But for the billions in value that it created and the impact that it’s had in revolutionizing digital payments, it’s remarkable to consider how close the company came to never existing.

It wasn’t just teetering on the brink of insolvency, something that every startup encounters at some point. Rather, PayPal was never intended to be a payments company, but started out as an encryption solution for early Palm Pilots. The little known stories of the multiple pivots that led the company to the payments promised land is nothing if not remarkable.

Speaking at tonight’s PandoMonthly fireside chat in San Francisco, PayPal co-founder and former-CTO Max Levchin shared the story of his first meeting with Peter Thiel. As a recent computer science graduate of the University of Illinois, Levchin attended a small lecture by Thiel at Stanford and ultimately ended up pitching him over breakfast a few days later.

“I was one of the first developers of the PDA... and I was like one day, everyone is gonna use these at work,” Levchin recalls telling Thiel. “[I said] what do you think they’re gonna do when the man is gonna try to read their documents, when their customers are gonna steal all their data? They’re gonna encrypt it. And I’m gonna invent all the crypto.”

Thiel bought into the concept and wrote the first check for the company that would ultimately become PayPal, from his hedge fund meant to invest in public stocks. After developing mountains of “very ingenious” code, in Levchin’s words, the pair pitched Palm on embracing the software and were shut down summarily.

“They were like, 'No one will use this in the enterprise, this is a personal device, it has calendars and notes,'” Levchin says. “We were distraught for the first time because we had to go out and raise money.”

After a desperate brainstorming session centered around other uses for encryption code on handheld devices, Levchin and Thiel settled on the concept of beaming digitally-signed, secure personal IOUs between palm pilots using their infrared ports.

“The payments thing began very earnestly with these IOUs,” Levchin says.

The idea was so revolutionary that PayPal ultimately raised a $6 million Series A round in 1999 from BlueRun Ventures. The company even beamed the capital for its first round between Palm Pilots, marking the first time in history money was ever transferred electronically. Although it was far less trendy at the time, PayPal was also likely the first ever mobile-first company as well. It was at Reid Hoffman’s insistence and only for demonstration purposes that the company even built a Web version of its product.

“We were like, ‘here’s how it works if you don’t have a Palm Pilot, but go get yourself a palm pilot and beam some payments,’” Levchin says. “We were very throwaway about the non-mobile demo on the website, it was really poorly built... Reid was like, not everyone has a Palm Pilot, I think they have about two million units in circulation, the Web is bigger than that.”

In one of the most astounding examples of unintended consequences, it was the Web version that caught on – thankfully given that it was approximately 15 years before handheld devices really became mainstream. The earliest influxes of meaningful payment volume to PayPal came from eBay, Levchin recalls, but the company’s first reaction was to try to ban it out of fear of being associated with a secondhand marketplace. It wasn’t until a user emailed asking for a copy of PayPal’s logo to feature on its listings pages that the company realized that there may be an opportunity worth exploring in ecommerce.

As luck would have it, this realization coincided with the altogether unrelated decision by PayPal to offer new users a $10 credit for signing up and another $10 for referrals. By making withdrawals more difficult than deposits, PayPal was able to keep much of this capital in the system and, in effect, seed the marketplace. But the byproduct was that many eBay merchants decided to pocket the $10 and in turn offer buyers free shipping.

“[Free shipping] is what [buyers] crave – they don’t understand $10 off, but they get free shipping, they love that” Levchin says. “That was basically the original explosion of PayPal on eBay, everyone got free shipping.”

Of course this was the beginning of big things for PayPal and set the company off on a path that would ultimately see it being acquired by eBay for $1.5 billion just two years later. Like many startups, there were countless instances along the way in which PayPal could have failed. What’s remarkable, however, is just how unintentional the concept of revolutionizing the payments industry really was.

It’s often said that it’s better to be lucky than good. Fortunately for PayPal, Levchin, Thiel, and the company's other early execs were both lucky and good. It wasn’t just the company and its investors that won big, however. Silicon Valley has been impacted significantly by the emergence of the eponymous PayPal mafia that the company’s success spawned.