Buy Now Pay Later Bubble: A Retailer's Guide
What is Buy Now Pay Later?
Buy Now Pay Later (BNPL) is a type of payment plan where consumers can purchase an item now and pay for it in installments in the future. This is seen as an alternative to traditional forms of credit, such as credit cards, personal loans, and store charge cards.
The BNPL industry has seen a surge of growth in recent years due to increased consumer demand for flexible payment options during the pandemic and resulting inflation. This growth is expected to continue as BNPL is becoming increasingly popular with both customers and retailers, but trouble may be brewing.
How is Buy Now Pay Later Implemented in Ecommerce?
For most ecommerce websites, Buy Now Pay Later is implemented as an alternative payment method at checkout. Customers can opt for BNPL instead of making the full payment at once. The customer will generally be responsible for making periodic payments over a period of time directly to the BNPL vendor, and the BNPL vendor pays the ecommerce merchant right away as checkout where the order can be processed just like an order that was paid via credit card.
This means that for the average ecommerce merchant, the decisions are simple:
Do you want to offer Buy Now Pay Later?
If you do, what Buy Now Pay Later provider is most popular within your customer base?
If that provider offers terms you find acceptable, you’ve found your new BNPL provider to implement. If not, look to the 2nd most popular within your customer base and repeat from there.
Then, your technical team simply needs to implement BNPL as a payment provider on your website - almost all of the providers have extensions or modules already written for all the major ecommerce platforms, so this tends to be easy.
How Do Buy Now Pay Later Companies Pay Their Bills?
Like many tech companies in the past decade, Buy Now Pay Later providers have grown incredibly quickly, to the level that they cannot all provide all of the cash to pay retailers for BNPL purchases - remember, BNPL providers pay the merchant at the moment the order is placed, well before they receive repayment from the customer. And unlike large, established credit card providers, many BNPL providers aren’t connected to large financial institutions - instead, they’re part of the Fintech movement that has tech-focused companies disrupting the financial sector. This means BNPL providers typically can offer accounts and financing to more people than a traditional credit card.
All of this has fueled their growth, which has fueled their need for more and more capital to continue operating. BNPL companies have been successful in growing to date by simply borrowing the money they need - if you make a BNPL purchase for $100 at 10% interest, your BNPL provider may have been bundling that with $100,000 worth of purchases that they then obtained financing for at 5% interest. This allows them to have the cash necessary to continue to pay the merchants for the purchases and take on new customers and generates steady cashflow for the BNPL provider - you’re paying them 10% interest on your purchase, and they’re using your payments to pay their 5% interest the money cost them, with the rest going to profit.
If all of this sounds a little familiar, yes, on the surface at least, it seems a bit like the mortgage backed securities that drove the 2008 financial crisis. If it doesn’t sound familiar, the movie The Big Short will help catch you up to speed, where basically lenders were bundling together mortgages and selling them on the stock market in a way that they made money off the difference in the interest rate charged to the customer versus the returns paid to the investors. At least, they did for a while, until the entire approach came crashing down as interest rates went up and the ability for customers to pay their debts went down.
What Could a Buy Now Pay Later Bubble Bursting Look Like?
Two factors would drive a Buy Now Pay Later ‘bubble’ to burst:
Increasing interest rates
A sharp increase in the number of customers that are late or default on their repayments to their BNPL provider
As interest rates go up and it becomes harder to obtain financing, it may become harder for BNPL providers to obtain financing themselves, and the financing they obtain will be at a higher interest rate. They then will either make less money on the difference between the interest rate they charge and the interest rate they pay, or they will have to charge a higher interest rate.
As BNPL providers charge higher interest rates, fewer customers will be able to afford or qualify for BNPL, which will slow the growth of the BNPL provider and may cause them to become less profitable or even highly unprofitable - these are companies that have been growing like tech companies, not financial institutions.
As consumers face rising inflation and higher interest rates, they have to begin to prioritize who they repay, and they may not be able to pay all of their creditors. It seems most likely that creditors like mortgage holders, auto loan providers, etc., will be the first to be repaid since defaulting on your mortgage or car note means losing your house or car. But if you default on that BNPL purchase of those sneakers? Well, no one’s coming to repossess your Yeezy’s. If enough consumers decide they cannot afford to repay their BNPL provider, that provider could see their current cashflow crash, leading them to be unable to make new loans or repay their own creditors.
What’s the Buy Now Pay Later Bubble Risk to Retailers?
First, review your agreement with your Buy Now Pay Later provider and make sure there is a definite timeframe in which they must deposit payment for the purchases your customers finance via BNPL. Look at how much your BNPL orders amount to during that timeframe, and that’s your immediate financial risk - if your BNPL provider fails, that is the dollar amount you may never receive despite fulfilling the order.
Next, consider what percentage of your revenue is currently coming via BNPL. Many consumers make purchases via BNPL that they wouldn’t make if BNPL wasn’t an option. This means if your BNPL provider fails or if they increase their requirements or rates to a level that your customers can no longer utilize BNPL, you may lose this portion of your revenue. If this is a very small amount, it may not be worth worrying about. But if it’s a large enough amount to make a material impact on your business, it may be worth evaluating alternative BNPL providers and having a plan in place so that if your current BNPL provider fails or raises their requirements too high for your customers, you have a secondary provider you could quickly switch to.
Finally, because BNPL providers pay you when the order is placed, not when repayment is complete, you should not have any direct financial risk related to mass defaults on BNPL payments, but please do consult your specific contract with your BNPL and your attorney to make sure.
What Now?
Check your agreement with your BNPL provider to determine your risk exposure, develop a backup plan in case your BNPL provider fails, and then — like so much else in the economy — wait and hope that interest rate hikes do begin to slow, that inflation calms and that these Buy Now Pay Later firms are able to navigate this change in the financial environment better than the banks that specialized in mortgage backed securities back in 2008.
