What's the Hubbub About Buy Now Pay Later?
February 21, 2022
Buy-now-pay-later loans, or if you're really cool 'BNPLs', are experiencing rapid adoption with consumers especially among Millennials and Gen Zers because they give users more purchasing power, and they can spread out the payments, and in some cases without even having to pay interest.
On the seller side many retailers are now offering this payment option to attract these young shoppers.
Some major sellers, like Adidas and Peloton even offer zero-interest financing to their BNPL buyers. As long as they make payments on time, they can break down their purchase into installments for no additional cost.
In particular Pelaton forged an early relationship with Affirm to offer buy-now-pay-later on their expensive bikes and capitalized on the coronavirus work from home, stay out of the gym, phenomenon. They hit a home run.
Qualifying for a buy-now-pay-later plan is a lot easier than qualifying for a credit card, especially for borrowers who don’t have an established credit history. Just select the buy-now-pay-later option at checkout, answer a few simple questions and zippo you’re instantly approved for that purchase and you own the item.
New Fast-Growth Businesses Forming
The number of BNPL users in the United States has grown by more than 300% per year since 2018, reaching 45 million active users in 2021. Americans alone spent over $20 billion in buy-now-pay-later programs in 2021.
According to a Zip.co survey of more than 1,000 U.S. merchants, 25% accept BNPL; of those that do not, 46% say they are either likely to accept BNPL within a next year.
None of this growth would be possible without the emergence of fintech firms focusing on this space. Retailors large and small are outsourcing their BNPL loans to these 3rd party fintech firms. That way, they don’t have to take the default risk and they get the cash right away. Even behemoths like Walmart, Target and Amazon are offering it.
Four are the larger fintech firms offering buy-now-pay-later programs for merchants are:
- Affirm
PayPal Credit
- Afterpay
- Klarna
- Sezzle
- Zip
What's Old is What's New
There's nothing conceptually new about buying with BNPL loans. We've been buying houses, cars and appliances on credit for many, many decades. Many decades ago, Sears offered their own credit card to buy anything in their stores.
What's new is the technology that bolts on the ease of applying for the loan to an online shopping store. Fintech companies have written algorithms that can quickly determine the credit worthiness of the buyer for the item that are seeking within seconds so as to mitigate default risk.
A fintech like Affirm cut a deal with Amazon to give the shopper a choice of buy-no-pay-later at checkout – easy peasy.
How Does BNPL differ from standard Credit Card Borrowing?
BNPL loans share similarities with credit cards, which enable consumers to take immediate possession of goods but delay payments. Consumers have used credit cards for their rewards or just cash-free convenience, what's more cool than to pay with a wearable?
But, only about 1/3 of Gen Zers and about 1/2 of millennials own a credit card. The reason is probably twofold: they haven’t yet established reasonable creditworthiness and are rebellious against big credit card companies.
As opposed to BNPL loaners, credit card companies only view the borrower's capability to carry a certain level of debt regardless of the actual items being purchased. Plus, they have no real relationship with the merchant except to hose them with merchant fees.
In contrast, BNPL fintechs have written algorithms that do a "soft pull" of the buyer's credit score but also factor in the popularity of the item being purchased and the relationship with the merchant to determine loan approval. They also make the checkout process very fast and seamless. They give several options as to how many payments the buyer chooses to make. Then before finalizing the purchase the buyer knows exactly what each monthly payment will be and what portion is interest.
The biggest example of the symbiosis between a seller and a BNPL fintech is that between Affirm and Peloton. When coronavirus hit in 2000 sales of Peloton bikes doubled in one year. This couldn"t happen for a $1,500 item unless most buyers could gain instant credit approval and spread interest free payments out for as long as 3 years thus making the monthly loan payments no more than a gym payment. That's exactly what Peloton and Affirm offered.
What's in it for the Merchants?
A recent study shows that merchants offering BNPL loans experience a decrease in cart abandonment and an increase in repeat business.
The predefined, fixed-dollar installments (with or without interest) can make goods more attainable for new customers, increase existing customers’ propensity to purchase, and increase transaction value.
BNPL products also provide merchants the ability to settle sales quickly and may eliminate chargeback and fraud risks because BNPL firms assume those risks
On average, a merchant with sizable monthly credit card sales volume can expect to pay roughly 2.5% in credit card processing fees. The fees for BNPL can range anywhere from 1/% to 7% depending on the BNPL provider and how much interest cost will be passed on to buyers in interest.
So, merchants don"t add BNPL just to save money, they're convinced that they"re making more sales at higher ticket prices. Much more so than they could with credit card companies.
Concerns Over the Rate of BNPL Delinquencies
A January 2022 survey of some 1,500 BNPL users by Breeze, a firm that follows personal-finance trends, revealed that 48% of users with multiple BNPL accounts open have missed a payment.
BNPL products generally targets millennials, Gen Z consumers, and financially underserved consumers such as those with no credit or bad credit.
One culprit for the delinquency rate could be that BNPL lenders tend not to perform extensive credit checks, if any at all, when qualifying applicants. As a result, BNPL lenders may have opened the door to qualifying consumers with poor credit ratings who may be overextending themselves with too many open loans. This is reminiscent of the 2007 housing bubble.
Equifax announced it would become the first credit bureau to add BNPL data to consumer credit reports, a move that may help BNPL lenders manage their risk better. This is a step in the right direction to invoke discipline into the process.
Another potential risk for consumers is that the easy availability of BNPL credit during the checkout process could encourage impulse buying.
Conclusion – There's no Such Thing as a Free Lunch
What's the latest cons in contemporary society? How about 'free shipping', tell me you don’t believe it"s built into the markup of the item.
Well, the newest con is BNPL that you can own something today and pay little or no interest on the item and spread the payments out over many months, sometimes even a year and it doesn"t cost you more – really?
There is no such thing as a free lunch the costs of those loans are born by the consumer and the merchant there is no 'free'. Now, sprinkle in a for-profit fintech as a middle man who needs a cut of the action and the free just became a lot more expensive.
What"s the best way for young people not to build wealth? Live beyond your means·buy on credit. Don"t qualify for a credit card, no problem, BNPL will let you buy mostly whatever you want.
For merchants, BNPL works best if your product is big ticket like a Pelaton bike. You make the sale, get the cash right away, and build the loan cost into the list price of the product, but the rest of merchants with smaller ticket items seem to be jumping on simply because of FOMO (fear of missing out).
About the Author
Al Valente is a business consultant servicing New England and helps customers to make smart investment decisions in selecting their payments processing systems. He is an independent agent for NCR/JetPay, Elavon, Upserve, and Choice Merchant Solutions.
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