Buy now/pay later has many consumers worried

Buy now/pay later has become one of the hottest fintech categories for investors, though data suggests many consumers aren't using it regularly, are worried about taking on too much debt and in many cases don't even know the product exists.

Research from PayPal and BigCommerce, an e-commerce platform for merchants that offers BNPL through a partnership with PayPal, found that only one in five U.S. merchants offers BNPL.

Citi Australia also contends there is a lack of uptake, particularly for nonbank BNPL offerings. Citi's internal research found that only one in five Australians had used BNPL from nonbanks. The bank is partnering with the retail site Kogan.com to support BNPL in Australia in competition with fintechs such as Afterpay. The services will launch later this year under a new brand, since Citigroup is selling its consumer bank in Australia.

"I think the jury is still out as to whether BNPL will have a significant impact on other forms of merchant credit," said Amanda Rose McCreight, director of payments revenue at BigCommerce. Some consumers are loyal to particular payment options and as such may be difficult to attract to a new form of credit and payment, McCreight said.

PayPal and BigCommerce surveyed 3,000 consumers from the U.S., U.K. and Australia on a range of topics, including BNPL and preferences for online shopping. Regarding BNPL, 48% of Australian merchants, 20% of U.S. merchants and 11% of U.K. merchants offer installment payments.

Consumer use is irregular. Across all three countries, 46% of consumers report having used BNPL at least once over the past three months, with just 10% reporting using it five or more times during the same period. In the U.S., nearly 61% of consumers have never used BNPL, mostly because they're worried about debt, fees or a lack of knowledge about the service — a third list debt concerns as their reason to not use BNPL, according to PayPal and BigCommerce's study.

Source of the doubt

There is a fair amount of skepticism in the market around BNPL, according to Brad Paterson, CEO of Splitit, a New York-based installment lender. BNPL lenders need to communicate how the product can be used safely and embrace governance for installment lending, he said.

"There are dramatic headlines of consumers getting financially pummeled because of missing payments or overextending because of BNPL purchases that have captured the attention of businesses, consumers and regulators," Paterson said.

That kind of attention can create misunderstanding about the product and steer people away, andy firms in the industry do earn a third or more of their revenue from "overstretched consumers" and late payment penalties, Paterson said. "The fact is to many, BNPL can sound too good to be true," said Paterson, who positions BNPL as a way for consumers to purchase the items they need, manage surprises and also obtain aspirational items by paying over time.

Investors have poured billions into BNPL firms either through venture capital funding or public offerings over the past year. Klarna has drawn investment from Ant, and Affirm went public earlier in 2021 following a fundraise of more than $500 million in late 2020. The card brands are also investing in BNPL, and American Express recently introduced a version of BNPL for air travel. This investment anticipates growth. Bank of America estimates the BNPL market will pass $1 trillion by 2024.

But the funding comes as the BNPL industry faces a challenging business model that threatens its profitability. The Department of the Treasury in Australian reports an average BNPL-funded sale of $100 earns $4 in merchant fees and $0.56 in late fees. That bumps against expenses of $4.75, $1 of which is credit losses and more than $3 is marketing, salaries and operations, suggesting BNPL businesses face thin margins.

In Australia, one of the earliest markets to embrace BNPL, 30% of the revenue of BNPL firms comes from "bad debt," or debt used for consumption rather than wealth creation, according to the Department of the Treasury in Australia, adding late fees for BNPL lending, when converted to APR, are as high as 68%.

BNPL is not heavily regulated in most countries, though there is momentum to force BNPL lenders to face regulations similar to bank lending. BNPL firms should embrace regulation as a way to address consumer fears, according to Paterson.

"The industry needs to be more transparent and work with regulators to ensure we all have the consumers’ best interests at the forefront of all we do," Paterson said. "More education and more transparency coupled with continued innovation will help attract new believers and convert them into repeat customers."

The BNPL market has attracted regulatory attention in Australia, the U.K. and the U.S. A report from the Australian Parliament found BNPL funding is present in 20% of consumer insolvencies, compared with credit card debt insolvencies at about 3%. In the U.S., about two-thirds of BNPL users have a credit card balance of 75% of their limit when making their initial BNPL purchase, according to Research and Markets.

In an earlier interview, Bradley Riss, chief commercial officer at Checkout.com, said tighter regulations would spur product diversification among BNPL firms, potentially improving their long-term outlook.

Affirm earlier in 2021 launched a BNPL-linked debit card, while Klarna recently partnered with the fintech Liberas to power merchant credit based on future payment flows to counter similar products from Square and PayPal. Klarna also launched an incentive marketing plan, while Curve, an all-in-one card product, recently raised funds to fuel its move toward BNPL to grow uses for Curve account holders.

Splitit this week introduced Splitit InStore, which supports Apple Pay and Google Pay, to speed in-store installment lending. InStore was designed for sales associates at retailers, which are able to offer installment options for larger value purchases such as home furnishings, jewelry, luxury retail and sporting goods. Retailers at launch include La-Z-boy Furniture Galleries, Faberge, Gem Shopping Network and Aftershock PC in Australia.

Splitit has increased its focus on the service sector, including medical and legal bills. "Conversion rates and average spends with BNPL are higher, and the solution is increasingly becoming an organic piece of a consumers’ overall financial wellness journey," Paterson said. Splitit uses consumers' existing credit relationships to fund installment payments, which Paterson said allows consumers to avoid opening a new credit line. "Once our users understood Splitit, they consistently asked for more ways to use it, which is why we have also focused on the service sector," he said.

Despite the research showing tepid consumer uptake, BigCommerce is still bullish on BNPL, noting its research found 74% of BNPL users were prompted by a message early in their shopping experience, suggesting marketing and other messaging could boost usage. "While adoption of buy now/pay later has not been as pervasive as some other payment options, it’s showing strong growth, particularly with younger consumers who are growing in their spending power," McCreight said.

BNPL can contribute to consumers' financial health if used wisely, McCreight said. Additionally, 57% of U.K. consumers are more likely to make a purchase at a retailer that doesn't charge interest for point of sale financing, creating more upside for BNPL, according to BigCommerce.

"BNPL plans often don’t charge interest and are generally easier to get approved for than traditional credit cards, so there is potential for them to lower debt risk as long as shoppers don’t miss payments, which could affect credit scores," McCreight said. The overall trend is toward more merchant and consumer use, she said.

BNPL grew during the pandemic from a very low base of early adopters. But it is still not a mature product. Many of the consumers who use BNPL do so to avoid revolving debt, or to attain a simpler picture of their debt, since BNPL lending is usually tied to a single purchase.

"Offering a BNPL option has revenue-related benefits like increasing conversion and average order value while decreasing cart abandonment," Paterson said. "What many haven’t yet realized is that not only does BNPL help shoppers spend smartly, but it’s a win for merchants, too, allowing retailers and consumers to align in their financial goals."

Need drives awareness

According to The Ascent, a personal finance firm affiliated with Motley Fool, 40% of adults who use BNPL do so to avoid credit card interest. And 38% use BNPL to buy things they can't afford otherwise.

Vrbo, an Experdia subsidiary that supports vacation home rentals, thinks of BNPL as a financing option that can help with an expected jump in travel volume that comes as more people schedule trips after the pandemic restrictions lift. The travel market is still unpredictable as it emerges from the pandemic, leading travelers to make decisions on booking and payments quickly.

Vrbo in March partnered with Affirm to allow consumers to book accommodations and split the cost into monthly payments. The Vrbo/Affirm offering bases interest rates on the consumer's credit profile. The emerging need for flexible financing is making people more aware of the relatively new BNPL option, according to Vrbo.

"We're seeing families stay longer, travel with more people and spend more in 2021," said Mike Sutter, senior vice president of product management at Vrbo. Renters "can use Affirm to find the perfect property and book it before someone else does."

At the online jeweler JamesAllen.com, BNPL is a payment option alongside PayPal, wire transfers, credit cards and the merchant's own customized financing plans (which require a minimum purchase of $1,000 or $2,000 depending on the customized plan).

James Allen uses Splitit's BNPL offering, and says that option has increased average order value, though the company did not provide specific numbers. The jeweler has expanded marketing and other messaging to boost BNPL usage and raise awareness among consumers, according to Shannon Delany-Ron, James Allen's chief marketing officer.

"It allows consumers to purchase a more expensive engagement ring or piece of jewelry without having to worry about having the full funds available at the point of purchase," Delany-Ron said. As the use of BNPL increases, along with knowledge about the product, consumers' comfort with the debt risk will increase, Delany-Ron said.

"As consumers do the math, I think it's less about debt and more about cash flow," Delany-Ron said. BNPL, she added, provides flexibility without contributing to concerns that the consumer is increasing overall payout. "We believe it will become more popular over time."