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Payments

The rapid evolution of buy now/pay later loans

ByKate Fitzgerald
December 27, 2022 9:00 PM

The lockdowns accompanying the pandemic created ideal conditions for the runaway growth of instant buy now/pay later loans offered online by Affirm, Klarna, Afterpay, PayPal, Zip and Sezzle, among others. But the BNPL phenomenon began to evolve in several directions as the pandemic waned.

The key innovation from BNPL fintechs was technology enabling merchants to offer consumers instant financing on a specific purchase at the point of sale, with minimal personal information and no credit-score hit. The simplicity of financing individual purchases appeals to many consumers as an alternative to traditional credit cards, but it introduces complexities regulators are still studying.

BNPL loans are still gaining in popularity — 28% of U.S. consumers had used a BNPL service by August 2022, up from 18% at the beginning of the year, according to Consumer Reports — but funding sources, loan quality and terms of many BNPL loans are in flux.

The Consumer Financial Protection Bureau stopped short of issuing rules for this unregulated sector after conducting a months-long BNPL market-monitoring inquiry in 2022, but the agency is closely watching for signs of consumer harm from borrowers racking up multiple BNPL loans not monitored by credit bureaus. This holiday season, the CFPB issued a memo warning consumers of BNPL pitfalls.

The next year will be a test of survival for the savviest BNPL fintechs. Fresh competition is coming from Apple and others, and incumbents will need to retool products and pricing to counter fresh pressure — including from banks — in a tighter economy and amid rising interest rates.

Apple Pay
Chris Ratcliffe/Bloomberg

Competition heats up

One of the biggest threats to incumbents in 2023 will be Apple Pay Later, expected to launch during the first half of the year. Presented as an option for Apple Pay online and within apps, shoppers with iOS devices will be able to split up a purchase at the point of sale. Apple has not disclosed the full range of financing offers Apple Pay Later may include.

The fintech One, with financial backing from Walmart, plans to enter the BNPL arena in 2023, according to reports. Walmart, which has a longtime partnership with Affirm for financing purchases online and in Walmart stores, has disclosed no details about its plans.

New entrants could force retrenchment among existing players. Australia's Openpay halted operations of its U.S.-based Opy BNPL operation after months of development and promotion, and a deal Sezzle reached to be acquired by Zip fell through earlier this year.

Mastercard Installments and Visa Installments, announced last year, are slowly developing an ecosystem where banks may offer instant point-of-sale financing for merchants online and in stores. Visa Canada last month said Royal Bank of Canada is giving its credit card customers the option to convert online and in-store purchases into small, equal payments at the point of sale with certain merchants. Mastercard is working with i2C, Deserve and Amount to connect banks to merchants for point-of-sale BNPL options, and SoFi this month announced a Pay in 4 interest-free option using Mastercard's rails.
Affirm and Klarna
Bloomberg News

Valuations swing

Certain big BNPL fintechs saw their valuations tumble over the last year as the economy shifted, and the biggest BNPL fintechs suffered catastrophic declines in their market value as user-growth rates slowed somewhat and consumer delinquencies ticked up. 

Klarna — valued at $45.6 billion last year — tumbled by 85% this year to a $6.7 billion market capitalization after losing more than $580 million during the first half of the year. The Sweden-based company laid off 10% of its workforce but also raised $800 million in fresh funding in July, and recently CEO Sebastian Siemiatkowski said Klarna is on track to become profitable in 2023.

Affirm, which was valued at more than $30 billion last year, now hovers below $4 billion and its stock has fallen 92% from a year ago. But financial results for Affirm's most recent reported quarter, which ended Sept. 30, 2022, showed a 34% increase in revenue to $362 million, up from $269 million a year earlier. In that time, the total base of active Affirm customers grew 69%, to 15 million, from 9 million a year earlier.  

Both Affirm and Klarna — which is underpinned by a bank — claim to have stabilized delinquencies by tightening their underwriting standards in the latter half of 2022. Klarna predicts it will reach profitability next year and Affirm's recent letter to investors said its gross merchandise volume through September 30, 2022, accounting for nearly 2% of all U.S. e-commerce sales volume in that timeframe.
Afterpay-Klarna

Beyond interest-free

The Pay in 4 interest-free model — where customers repay purchases in four equal installments over six weeks — remains popular. But more BNPL firms have added longer-term financing options that charge interest. 

The key revenue source is still the fees merchants pay BNPL firms for closing deals, but interest is likely to become more essential to profits as the industry evolves.

Affirm has long offered a range of financing options for purchases, with interest rates ranging from 0% up to 36% and terms stretching up to 60 months. Klarna offers an interest-free Pay in 4 option, plus another option to pay off purchases interest-free within 30 days, or interest-based loans from six to 36 months.

PayPal in June followed suit by adding a monthly payment option, enabling customers to stretch loan repayments over two years, with loans available through WebBank. The loans go up to $10,000 with three different interest rate options. APRs ranged between 0% and 29.99%

Afterpay in October got on board with longer-term loans, adding a monthly payment option (with interest) for a handful of merchants, with plans to expand the option in 2023. Afterpay customers may opt to spread payments over six months or 12 months for purchases up to $4,000 with interest based on users' credit scores and Afterpay repayment history.
Donation jar
Adobe Stock

BNPL spreads

The simplicity of instantly financing items with a few clicks has been such a hit with consumers that other industries have borrowed the BNPL concept to close more deals.

Los Angeles-based B Generous applied the BNPL model to charitable giving in 2022 with its "Donate now, pay later" approach that helps balance organizations' need for funding throughout the year (versus donations piling in at the end of the year near donors' tax-filing deadlines).

The startup Everyware has extended its consumer finance plans for car sales and automotive repair to include "text now, pay later" options where customers receive a text at the point of sale with an offer to spread a lump-sum purchase into installments.

Scratch Financial, which originally specialized in financing for veterinary services, has expanded its installment loan options and branched into other medical verticals including dental, optical and chiropractic with a "Care now, pay later" marketing motif.
Kate Fitzgerald
Senior Editor, Payments
Payments
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