(January 31, 2008) PayPal Inc.’s rapidly growing payment volume, coupled with its increasing penetration of markets not related to its mainline eBay Inc. business, led to the e-commerce processor’s announcement this week that it had agreed to buy an Israeli technology firm, Fraud Sciences Ltd., for $169 million in cash. PayPal says the acquisition will enhance PayPal’s and San Jose, Calif.-based eBay’s existing proprietary fraud-management tools and help the firms develop their next generation of anti-fraud technology.

Citing security concerns, a PayPal spokesperson refuses to discuss Fraud Sciences’ specific products or technology. “At a high level, their unique expertise is in the area of identity verification on the Web,” she says. “We feel like their ability to verify identity is a great enhancement to our services.”

The spokesperson notes that PayPal is “very proud” of its fourth-quarter fraud-loss rate of 27 basis points, or 0.27%, a rate she says is well below industry averages for card-not present merchants. But given PayPal’s huge volume, $14 billion in the fourth quarter, “any time you can lower that by a couple of basis points you can save your company millions of dollars.” PayPal’s volume is up 35% over the fourth quarter of 2006.

The acquisition comes in the wake of an announcement by eBay of new security measures and as PayPal expands its payment business beyond its core online-auction base at parent eBay. Online merchants now account for 44% of PayPal’s dollar volume, up from 35% a year ago. Some analysts believe that as PayPal beefs up its fraud-control systems, it could become more attractive as a general service provider to merchants. In a blog entry, Bruce Cundiff, senior analyst at Pleasanton, Calif.-based Javelin Strategy & Research, suggested that the acquisition of Fraud Sciences raises “the possibility of integrating the solution/capabilities into a service offering for PayPal merchants for more than just PayPal transactions.”

And Adil Moussa, a payments analyst at Boston-based Aite Group LLC, notes that PayPal also is now offering e-mail authentication services from Santa Clara, Calif.-based Iconix Inc. PayPal users can download a software plug-in that activates the Iconix Truemark service, which places an icon by e-mails determined to be from legitimate senders and helps consumers avoid opening so-called phishing e-mails—fraudulent messages intended to extract sensitive personal or financial data from recipients.

Fraud Sciences was on PayPal’s radar screen partly because it has a Silicon Valley office near PayPal in Palo Alto, Calif., and has received U.S. venture-capital funding. “We’re always watching this space,” the PayPal spokesperson says.

PayPal expects to close on the Fraud Sciences acquisition within a month. Several key personnel, including Fraud Sciences’ two founders, will join PayPal. Fraud Sciences president and chief executive Gadi Maier will stay on during a transition period.