Analysis-Buy Now Pay Later business model faces test as
rates rise
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[June 10, 2022] By
Elizabeth Howcroft
LONDON (Reuters) - Reduced consumer
spending, rising interest rates and trickier credit conditions spell
trouble for Buy Now Pay Later lenders, raising the prospect of
consolidation in the sector.
Buy Now Pay Later (BNPL) firms have created one of the fastest-growing
segments in consumer finance, with transaction volumes hitting $120
billion in 2021 up from just $33 billion in 2019, according to
GlobalData.
The BNPL business model emerged out of a very low interest rate
environment which enabled BNPL firms to raise funds at relatively low
cost and offer point-of-sale loans to customers on online shopping
websites.
Consumers pay for their purchases in instalments over a period of weeks
or months, usually interest-free, and BNPL firms charge online retailers
a fee for each transaction.
The model proved popular among young consumers during the COVID-19
pandemic as e-commerce volumes soared, with Buy Now Pay Later
transactions accounting for $2 in every $100 spent in e-commerce last
year, according to GlobalData.
But the sector faces a reckoning as the circumstances which fuelled its
explosive growth are coming to an end, with consumers cutting spending
and rising interest rates pushing up BNPL firms' funding costs,
squeezing their margins.
There are more than 100 BNPL firms globally, according to S&P Global
Market Intelligence's 451 Research.
Apple's announcement this week that it would launch its own deferred
payments service will further intensify competition and briefly knocked
the stock price of listed players such as Affirm Holdings, the biggest
BNPL firm in the United States, and Australia's Zip Co and Sezzle Inc.
Their share prices were already under pressure, with Affirm down around
75% this year.
Shares of Jack Dorsey's payments firm Block Inc, which bought Australian
BNPL provider Afterpay in a deal completed in January, are down around
48% in 2022.
"Right now there's more caution and less interest (in BNPL firms from
investors) because of the financial risks that could become apparent
here if we are in an economic slowdown or a potential recession," said
Bryan Keane, senior payments analyst at Deutsche Bank.
Graphic: Buy Now Pay Later stocks -
https://fingfx.thomsonreuters.com/
gfx/mkt/lbvgndaaxpq/Buy%
20Now%20Pay%20Later%20versus%20Nasdaq.PNG
Top BNPL firm Klarna, which was valued at $46 billion following a
funding round a year ago, recently laid off 700 staff - 10% of its
workforce.
The Swedish-based company cited shifting consumer sentiment, inflation
and the war in Ukraine as reasons, and said it is in talks with
investors to raise more money.
For smaller players, many of them fledgling start-ups, accessing funding
to lend to shoppers will become more difficult.
“Most Buy Now Pay Later providers don't have access to deposits, they
generally aren't financial institutions," said Jordan McKee, principal
research analyst at 451 Research. "There are certainly a few exceptions
to that. But generally they need to borrow these funds to lend out and
as interest rates associated with borrowing those funds increase ...
it's costing them more money to extend money out to consumers and that
puts pressure on their margins.”
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A smartphone displays a Klarna logo on top of banknotes is in this
illustration taken January 6, 2020. REUTERS/Dado Ruvic
Companies that are more insulated include Klarna and Block which have bank
charters and could fund with deposits, analysts say.
The sector also faces increasing scrutiny from regulators, as consumers struggle
with rising costs. UK charity Citizens Advice said on Tuesday that half of 18-34
year olds in Britain had borrowed money to make their BNPL payments.
Britain's finance ministry has launched a consultation on how BNPL firms should
be regulated. Australia's financial services minister said on Tuesday
https://www.theguardian.com/
business/2022/jun/08/embattled-buy-now-pay-later-sector-to-be-regulated-under-credit-card-laws
the government would push to regulate BNPL lenders under credit laws.
AFFORDABILITY CHECKS
New entrants are undeterred by the downturn: British banking start-up Zopa,
which reached a $1 billion valuation in a funding round in October, announced on
Tuesday that it would launch BNPL products as part of its offering.
Tim Waterman, Zopa's chief commercial officer, expects upcoming regulations to
include more stringent checks that customers can afford to make their payments,
and that reliance on the services will have to be reported to credit reference
agencies.
"The affordability checks are going to create more friction within the customer
experience and potentially tip the balance for merchants," he said. "At the
moment BNPL is very efficient in terms of driving sales and conversion rates and
that may change slightly."
Deutsche Bank's Keane said that merchants may put up with higher fees if BNPL
firms are bringing more customers to their websites, but that would favour the
big players.
"I think some small players will probably go out of business or they'll try to
connect onto some other tech players or some consolidation to the bigger
players," Keane said. Some big financial institutions may also be interested in
M&A opportunities in the sector, analysts say.
Rob Galtman, senior director at Fitch Ratings said that, although any lending
product risks higher default rates during a downturn in the economic cycle, BNPL
firms may be protected by their ability to control what kind of line of credit
they offer based on a users' behaviour, as well as the fact that they typically
offer shorter-term loans.
Apple's entry "signals a validation of these offerings in the market", he said.
Deutsche Bank estimates that the market could reach $482 billion by 2025, and
account for 5.6% of e-commerce spending including payments for travel and
events.
"What the Apple move telegraphs to me is that increasingly Buy Now Pay Later is
being seen as a feature, not a standalone business," said McKee.
(Reporting by Elizabeth Howcroft, additional reporting by John McCrank; Editing
by Sinead Cruise and Susan Fenton)
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