Buy now, pay later

Payment methods are changing. The latest development is “Buy now – pay later”.

Buy Now – Pay Later, or BNPL for short, allows consumers to buy a product or service immediately and pay in installments. Two types of BNPL can be distinguished. The first and most popular, allows payments in installments in a short period, without interest. The second type offers longer term repayments, with interest payments.

Main difference with credit cards? The absence of interest on deferred payment (at least for the most popular type). In addition, customers will not see their credit rating affected by what remains essentially a short-term loan. In addition, BNPL companies generally do not conduct credit checks with credit bureaus. Instead of using formal controls, they manage their credit risk by granting users privileged access to the platform. The consumer thus initially obtains a credit authorization for a small amount. The latter can be increased later if monthly payments are paid on time.

Despite the higher fees, this form of payment remains attractive to the merchant, as consumers who use BNPL buy more.

But then how do BNPL companies manage to cover their costs? Simple, merchants pay a direct commission to the BNPL provider to accept this payment method at their point of sale. It is equivalent to the discount rate for a traditional card payment. However, these fees are between 2 and 6%, which is slightly more than the fees for a credit or debit card payment. These commissions represent 70-85% of revenue for most BNPL companies. But despite the higher fees, this form of payment remains attractive to the merchant, as consumers who use BNPL buy more. BNPL’s transaction conversion rate is also higher than that of traditional payment methods. This is also a crucial element for e-commerce. We also see more repeat purchases, more traffic and lower customer acquisition costs. Thus, merchants tend to use BNPL platforms as a promotional tool for their products.

In addition to charging merchant fees, BNPL companies charge late fees to consumers who do not make their refunds on time. These fees can represent up to 10% of revenue and are an additional tool to manage risk and loss. Finally, these companies earn additional commissions by directing customers to merchants’ online stores from their platforms, thereby leveraging strong engagement from their user base.

A fast growing payment method

According to Worldpay’s Global Payments report, this payment method grew from 1.6% of global e-commerce transactions in 2019 to 2.4% in 2020. By 2024, it is expected to reach 4.2% in volume global e-commerce, implying an average annual growth rate of more than 30% compared to 2020.

But in some areas, the BNPL already far exceeds these numbers. In Australia, Sweden and Germany, it accounts for 10%, 23% and 19% of online payments, respectively. Suggesting that, in the long term, BNPL means of payment could cover a large part of online payments, strengthening the market’s growth prospects.

A competing bank?

Considering the added value that BNPL offers its customers, the current popularity of these platforms is not surprising. However, most transactions are still done through traditional bank cards. The method only transfers online payment volumes from credit cards to debit cards, resulting in limited impact of BNPL on banking networks

However, it is necessary to distinguish between the different transaction flows. Upstream payments are those made by BNPL suppliers to merchants. Most of them have direct integrations with merchants, allowing them to retrieve SKU data, product data or shipping details. This allows traders to get paid instantly as part of automated clearing houses. Transaction networks and merchants are absent from the equation in this scenario. If BNPL providers do not have a direct connection, a single-use virtual card is issued to pay the merchant. In this case, card transaction networks and merchants benefit from an equivalent economic model.

The customer decides how to refund their payments.

Deferred payments are made by customers to the BNPL supplier. The customer decides how to refund their payments. If the customer decides to link their debit or credit card to the BNPL platform, the banking and transaction networks benefit from the transaction. They are not bypassed. Today, there is no indication that BNPL providers are convincing or allow customers to link their bank accounts directly to the BNPL platform. If these players build on that capability, a closed-loop system could emerge in the long term through direct debit mandates.

Wallet experts like PayPal and Square have clearly identified BNPL’s potential in the e-commerce space for developing two-sided networks. Square acquired BNPL leader AfterPay for $29 billion to increase its online exposure, international presence and diversify into major retailers. Again, there should be no substantial closed-loop threats to the payments ecosystem. Square remains focused on the United States and handles just 1% of total commerce. Their Cash app is primarily used for peer-to-peer transactions rather than paying merchants. PayPal launched its own BNPL offering and acquired Japanese actor Paidy for $2.7 billion. Most PayPal users link their wallet accounts to credit and debit cards. Others link your bank account or pay transactions through stored balances. PayPal is still not actively closing the loop. The group always favors a partnership approach within the payments ecosystem. Still, it could become more aggressive in the long run, pushing people towards funding sources other than cards or successfully implementing direct payment methods. The latter option assumes that wallet users would allow PayPal to automatically transfer a certain percentage of their salary to their account.

In short, BNPL has become an essential option in the online payments space. He brings a disruptive approach to the field of short-term consumer credit. In the future, it could be a disruptive element in the traditional payments ecosystem, if industry players decide to enter “closed loop”. But for now, they are mostly contributing to overall growth.

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