The whole buzz around Buy Now Pay Later has been making the news for some time now. While the buzz started a couple of years ago, this entire foundation of credit and payments at a later date goes back many years. What has changed is the advent of fintech startups which have introduced a new kind of buy now pay later mechanism, highly sought after by the millennials and Gen Z. Through this article, we will discuss the various nuances of buy now pay later and how it impacts the different stakeholders involved as well as the future trends and implications.
What is Buy Now Pay Later (BNPL)?
Much like the credit card or the loan system, BNPL allows consumers to buy a thing of need and make payments for the same in a staggered manner. Essentially, BNPL lets users break down their payments into 4 or more installments which are due based on a pre-decided schedule. While initially considered as a recourse to buy big-ticket items, BNPL is now being used for almost all purchases by many users, including daily expenses like that of grocery. Invariably, the adoption has been increasing exponentially. Some people have even started seeing them as complete alternatives to credit cards. 38% of BNPL users say that these services will eventually replace their credit cards.
What’s driving BNPL adoption?
Multiple factors are driving the exponential adoption of BNPL among both consumers and merchants. Research shows that as of 2022, there are an estimated 360 million people worldwide using BNPL services. Furthermore, it is expected that there will be 900 million BNPL users by 2027, reflecting a user base increase of 157%.
For consumers, BNPL becomes an obvious choice because:
- Ease of access: Accessing credit through BNPL is much easier as compared to the traditional ways, especially for millennials and Gen Z who may not have the requisite credit scores or ratings for other forms of credit.
- No/Low-interest rates: Most BNPL providers offer credit at zero or very minimal interest rates, making it more appealing than credit cards. More often than not, consumers only have to pay what they owe, without any additional fees, unless they default at making the payment.
- Speed of execution: The approvals for BNPL are generally faster and consumers can get access to credit almost in real-time.
For merchants, the benefits of BNPL are equally appealing:
- Higher conversion: BNPL compatibility allows merchants to achieve a higher conversion or sales rate as consumers find this method easy and more approachable. BNPL is expected to reduce cart abandonment rates, because of the sense of having a higher purchasing power.
- Expanded customer base: BNPL bridges the affordability gap for many consumers and expands the customer base for merchants who can now tap into these newly minted prospects.
- Higher big-ticket sales: With BNPL, consumers are able to afford big-ticket items, which may be out of bounds without this easily accessible mode of financing. Higher big-ticket sales directly impact the top line for all merchants.
Does BNPL come risk proof?
The obvious answer is no! While the adoption of BNPL is truly commendable, certain risks and challenges accompany this new-age financing model for the consumers, merchants as well as the BNPL providers.
On the consumer side, BNPL creates the illusion of having a higher purchasing power. While it is an excellent model to stagger large expenses to match one’s pay cheques every month, it is now being seen as a way to over-index one’s affordability, leading to reckless purchase behavior. Many millennials and Gen Z are falling back to BNPL for even everyday purchases, without anticipating the increasing debt. In fact, according to a survey, one in seven BNPL customers had more than 20 loans last year.
Second, as with any innovation in its nascent stages, BNPL brings about ambiguities for consumers when it comes to different aspects. Such as, in case of a refund or order cancellation, it lacks clarity on the process, the fine print on interest rates, hidden costs and other regulatory aspects remain uncertain for most consumers, across BNPL providers.
Finally, the limited regulatory oversight that is currently accompanying BNPL can negatively impact credit scoring and creditworthiness for the users. Reckless buying and resulting potential defaults can tamper the financial habits and over perception of users, crimping their chance of accessing other forms of financing in the future.
Surprisingly, the picture is not all rosy for the BNPL providers as well. Though they have seen adoption at an unimaginable level and benefit from higher margin rates from merchants as compared to others, there are challenges along the way.
First, profitability at scale remains to be an unanswered challenge. BNPL providers have limited monetization avenues as compared to traditional lenders. Since the loans or credit are generally interest-free/ very small interest and for a shorter duration, major revenue streams include merchant fees, one-time transaction/ platform charges (in some cases) and bust rates (in case of payment defaults). However, revenue from steady interest rates is lacking.
Second, the instances of BNPL fraud are coming to light. Creating fake accounts, using stolen credentials, and creating multiple accounts, are just a few of the various ways BNPL fraud is being committed. Real-time execution and limited background checks are making BNPL providers prone to fraudulent activities. In many cases, consumers use BNPL with the intent of paying only one of four installments, which is only 25% of the total cost. Account takeovers, data phishing, fraudulent chargebacks, and transaction laundering are impacting BNPL today.
Furthermore, with ease of access, consumers might take more credit or loans than they can return, leading to building debts and losses for BNPL providers. At the same time, consumers might avail loans from different service providers, resulting in debts for financial institutions.
For merchants, the biggest challenge comes in the form of higher fees that are due to BNPL providers. While the fee may be worth it for new customer acquisition, it is likely to become a pressing issue for continued payments. At the same time, if BNPL providers intend to increase merchant fees to bridge their profitability gap, chances are merchants will find themselves struggling even more.
Furthermore, merchants are also struggling with limited clarity on certain regulatory and compliance aspects of BNPL. They are uncertain about numerous provisions, without clarity on how to seek answers.
The future of BNPL
While there are certain challenges in the BNPL system, it is important to consider them as teething issues and identify solutions to circumvent the same. For consumers, the onus lies on them to better manage their spending habits in a way that aligns with their ability to avoid any long-term debt.
However, for BNPL providers, it is extremely important to make credible lending risk assessments before offering BNPL facilities to consumers. Without the option of in-person credit check, BNPL providers should rely on robust digital identity solutions to mitigate the risks. The idea is to bring together data linked to the customer’s online presence, including phone numbers, email IDs, IPs, and device IDs to determine risk assessment. Getting contact details, studying purchase behaviors, and identity verification by leveraging AI and machine learning are a few ways in which BNPL providers can reduce instances of BNPL fraud and defaults.
To address the profitability challenge, BNPL providers must target market segments that deal in big-ticket items as the margins will be higher. Furthermore, the addition of other banking and lending products to the portfolio can add greater margins and other sources of monetization.
While it is too soon to predict the future of BNPL, if all stakeholders are able to balance the risks and challenges and ethically focus on the benefits, this new financing model can be a big game-changer. It is important for consumers and merchants to effectively educate themselves about the potential repercussions and make informed choices to leverage more accessible financing and customer conversation rates respectively.