Status: BNPL – FinTech Futures

by James · August 11, 2022

Every month fintech analyst Philip Benton explores a new topic and assesses the “status”, providing a thorough analysis and understanding of the market landscape.

This month we take an in-depth look at buy now, pay later (BNPL).

BNPL has become one of the most divisive credit products in modern times.

For some, it’s the future of fairer, more affordable and transparent credit, while others claim it’s the next “payday loan” crisis ahead. In truth, it’s probably somewhere in between, and a topic I’ve been keen to explore in depth for some time.

Table of Contents

Store economy redesigned

Buying something today and paying for it later is not a new concept. Walk into any furniture or bedding retailer and you’ll struggle to move past the 0% finance signs waved in your face, aiming to convince you that the £2,500 price tag isn’t why you should walk out of the store empty-handed. Installment plans have always made sense for big-ticket purchases, but the popularity of store cards in the 1990s led to smaller transactions being paid for on credit as well.

Store cards fell out of favor when e-commerce came to the fore, but the appetite for credit remained as consumers turned to credit cards or alternative providers such as payday loans. In the wake of criticism, new regulations and pay scandals that saw many UK pay providers either banned from operating or forced into administration, BNPL began to gain prominence.

BNPL is essentially a win for all parties. It increases customer conversion for the seller and is often far cheaper for consumers than traditional credit cards, while also providing more flexibility to pay. However, it has garnered criticism around users who have gone into debt and do not report information to credit bureaus, although Klarna will now do so from June 2022.

Old habits are hard to break

The Covid-19 pandemic boosted high-growth tech companies and saw Klarna become Europe’s most valuable fintech at over $45 billion in June 2021, while Australian provider Afterpay was acquired by Block (then Square) for $29 billion in August 2021, which was the largest takeover in Australian history. BNPL benefited greatly from exponential growth online. Consumers found it more convenient to pay, and especially in an uncertain time, it was beneficial for users to spread payments into reasonable chunks without being exposed to late fees or interest.

However, the expectation that this forced shift to e-commerce would become a permanent legacy of the pandemic has not manifested itself. As the world began to resemble “normalcy” in 2022, consumers largely reverted to old habits, and pandemic winners such as Ocado, Zoom and Peloton began to suffer, and later the fintech industry as well. At the start of the pandemic, e-commerce accounted for 30% of total UK retail spend and peaked at 38% in January 2021, but by June 2022 it was less than 25%. This has taken the e-commerce industry by surprise and led to mass layoffs including BNPL suppliers.

Source: Office of National Statistics

Inward now, regulate later

Such is the nature of product innovation, it needs to gain prominence before the regulator starts to take notice. The pandemic created the perfect storm for BNPL, with brick-and-mortar stores closed and bored consumers turning online for “fix” shopping and BNPL reduced friction by enabling “instant gratification” and deferring the thought of paying until the first installment is due.

However, BNPL has only been a mainstream product for the last 5 to 10 years, so it has not experienced a major economic downturn, which is going to be a test of the robustness of its business model. You can imagine that there will be more demand for BNPL in a cost of living crisis, but it is riskier to lend. BNPL is also subject to increasing fraud attempts, so identity checks must be developed quickly.

Can BNPL suppliers afford to risk late payment? Cash is king and having a substantial balance sheet and a cash runway is the only way to navigate uncertain times, which is why I think the likes of Klarna are willing to accept additional investment on such reduced valuation terms.

This has led regulators, particularly in Australia, the UK and the US, to monitor BNPL very closely, with regulation expected to include stricter affordability controls, data protection and standardization, which will ultimately make it more challenging for BNPL suppliers to market their products to consumers.

Run to the bottom

Increased competition is a recognition that it is a strong product. I don’t think anyone can disagree that flexible credit with no interest or late fees is a bad thing for the consumer and is a very effective customer acquisition tool. However, it seems like a ‘race to the bottom’ for the traditional BNPL vendors to get the payment button on the merchant side. Increasingly, sellers will be able to play off BNPL suppliers and negotiate cheaper prices or solicit bids for an exclusive contract (this is very much Affirm’s strategy in the US after signing an exclusive contract with Amazon until 2023).

The competition for BNPL is emerging from all sides. Incumbent banks, neobanks and big tech have all launched their own version of BNPL. Apple’s play is particularly important because they do not need to integrate directly with merchants, and together with their in-store POS terminal game, they have the ability to control the entire value chain and motivate both users and merchants. I wouldn’t be surprised to see the regulators keep an eye out because of potential anti-competitive concerns.

The rationale for banks launching a BNPL product is misunderstood. The expectation is that the banks will lose out on credit card revenue due to the success of BNPL, when in fact it is their overdraft business. “Unauthorized overdraft” charges were banned in April 2020, which in turn boosted BNPL as consumers saw it as a more viable, affordable option that would avoid dipping into their overdrafts.

BNPL 2.0: save now, pay later

From 2023, the UK government will introduce legislation that will ensure BNPL lenders will be required to carry out affordability checks to ensure loans are affordable for consumers, as well as changing financial marketing rules to ensure BNPL adverts are fair, clear and not. misleading. BNPL borrowers must also be approved by the Financial Conduct Authority (FCA), removing exemptions that previously applied to interest-free products.

Step forward BNPL 2.0. This was a hot topic at the recent Money 20/20 Europe conference where panellists Alice Tapper (Financial Inclusion Advocate), Ruth Spratt (Zip) and Clare Gambardella (Zopa) agreed that we are at the point now where BNPL 2.0 is necessary, saying that “it needs to be more structured, regulated and easier to manage”. It was also noted on the panel that “information disclosure needs to be improved at the point of sale, you can’t expect consumers to improve financial well-being without it”.

Zilch, a BNPL provider founded in 2018, sees itself as part of the BNPL 2.0 evolution with chief communications officer Ryan Mendy commenting that the firm is already regulated by the FCA and that its strategy is different to traditional BNPL providers. He says: “We focus on having a direct relationship with the consumer rather than a limited group of sellers, we offer 2% cashback to consumers who ‘pay in 1’ along with 0% interest for those who ‘pay in 4’, we see daily usage, and we perform real-time analysis of behavioral data to constantly assess affordability via a customer’s borrowing and repayment activity and revise their personal credit limits accordingly.”

BNPL 2.0 is an easy spin for me if it revolves around ‘save now, pay later’ which is a concept I first observed in Fintech Brainfood in January. Since we’re in the middle of a cost of living crisis, it makes perfect sense to save for a specific product, and especially if you’re able to get a discount from the merchant, as is the case with Accrue Savings’ business model. Up Bank in Australia has also launched a new savings-based feature that encourages customers to save on purchases instead of paying them off. The new service means customers can now create automated savings plans for items in their online basket – called ‘Maybuy’. When the savings target is reached, they will have the option to either buy the item or reconsider and keep the money they have set aside for something else.

BNPL is not going to suffer the same fate as payday loans just because the charges are not that high. The popularity of BNPL has called into question traditional credit scoring models, which can only be a positive that will ensure credit is more accessible and ultimately more affordable. Banks and fintech providers have slowly moved away from “financial management” to “financial wellness” and “save now, pay later” is the perfect wedge product to stimulate consumers. After more than a decade of record low interest rates and cheap debt, BNPL needs to evolve into BNPL 2.0 to ensure its relevance for the next decade.

About the author

Philip Benton is a senior fintech analyst at Omdia and writes analyzes about the problems driving technological change in financial services. Before Omdia, he led research on consumer trends in retail and payments at the strategic market research firm Euromonitor.