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© Reuters. FILEPHOTO: The Zip logo can be seen on a smartphone, in front of the displayed Sezzle Logo in this illustration from January 25, 2022. REUTERS/Dado Ruvic/Illustration

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By Elizabeth Howcroft

LONDON (Reuters] – Lower consumer spending and rising interest rates mean trouble for Buy Now Pay Later lender, increasing the likelihood of sector consolidation.

GlobalData says that Buy Now Pay Later firms (BNPL) have become one of the most rapidly-growing consumer finance segments, with transactions volumes reaching $120 Billion in 2021, an increase from $33 Billion in 2019.

The BNPL business model was created out of a very low rate environment. This allowed BNPL firms raise funds at relatively affordable costs and to offer customers point-of-sale loan options on internet shopping sites.

Instalments are paid by consumers over a time period of weeks to months. BNPL companies charge an additional fee per transaction.

The COVID-19 crisis saw young people adopt the model. E-commerce volume soared and Buy Now Pay Later transactions were responsible for $2 of every $100 spent on ecommerce. GlobalData reports that this was a popular choice.

The sector is facing a reckoning, as it faces a change in the environment that fueled its rapid growth. Consumers are cutting back and interest rates rising, which will lead to higher funding costs for BNPL companies, which can result in a squeeze on their margins.

There are more than 100 BNPL firms globally, according to S&P Global (NYSE:) Market Intelligence’s 451 Research.

Apple’s (NASDAQ:) announcement that it will launch its own delayed payments service this week will intensify competition. It briefly shook the stock prices of listed companies such as Affirm Holdings in America, which is the largest BNPL company, and Zip Co and Sezzle Inc.

Affirm’s share price was already in pressure. It fell 75% last year.

Block Inc’s shares are expected to fall by 48% next year, according to Jack Dorsey. Afterpay is an Australian BNPL provider.

Bryan Keane is a senior payments analyst with BNPL. Bryan Keane stated that there are financial risks here and it’s better to be cautious than inquisitive (in BNPL companies from investors). Deutsche Bank (ETR:).

Graphic: Buy Now Pay Later stocks – https://fingfx.thomsonreuters.com/gfx/mkt/lbvgndaaxpq/Buy%20Now%20Pay%20Later%20versus%20Nasdaq.PNG

Klarna, a top BNPL company valued at $46Billion following a financing round a year back, has recently fired 700 employees – 10% from its workforce.

According to the Swedish company, shifting consumer sentiments, inflation, and war in Ukraine were some of its reasons. It stated that it was in discussions with investors for more capital.

Accessing funds to loan to shoppers is more challenging for smaller companies, which include many start-ups.

“Most Buy Now Pay Later providers don’t have access to deposits, they generally aren’t financial institutions,” said Jordan McKee, principal research analyst at 451 Research. Although there are some exceptions, that is not the norm. But generally they need to borrow these funds to lend out and as interest rates associated with borrowing those funds increase … it’s costing them more money to extend money out to consumers and that puts pressure on their margins.”

Klarna and Block are two companies that have more insulation. These banks charters allow them to fund deposits with deposit funds. Analysts agree.

Regulators are also increasingly scrutinizing the sector as more consumers face rising costs and increasing pressure. Citizens Advice in the UK reported Tuesday that 50% of those aged 18 to 34 had borrowed money for BNPL payments.

Britain’s finance minister has opened a consultation about how BNPL businesses should be regulated. Australia’s financial services minister said on Tuesday https://www.theguardian.com/business/2022/jun/08/embattled-buy-now-pay-later-sector-to-be-regulated-under-credit-card-laws the government would push to regulate BNPL lenders under credit laws.

AFFORDABILITY CHECKS

New entrants don’t seem to be affected by the recession: Zopa, a British start-up bank, revealed on Tuesday that they would offer BNPL products.

Zopa chief commercial officer Tim Waterman anticipates that future regulations will require customers to prove that they can pay their bills. Credit reference agencies must be informed of any reliance on Zopa’s services.

He stated that the affordability checks will create friction in the customer experience, and possibly tip the balance towards merchants. “At this time, BNPL is extremely efficient in driving sales and conversions rates. That may change.

Keane, Deutsche Bank spokesperson said merchants might be willing to pay higher fees if BNPL companies bring more customers to their sites. However, this would favor the large players.

Keane indicated that “I believe some small players might go out-of-business or they will attempt to connect onto other tech players or to consolidate to larger players.” Some big financial institutions may also be interested in M&A opportunities in the sector, analysts say.

Fitch Ratings senior director Rob Galtman stated that while any loan product is susceptible to higher default rates in a downturn, BNPL companies may still be protected because they can control the type of credit that they provide based on the user’s behavior and that most of their loans are shorter term.

Apple’s “signals a validation for these offerings in market”, he stated.

Deutsche Bank predicts that by 2025 the market will be worth $482 billion. The market accounts for 5.6% ecommerce spending, which includes payments for events and travel.

McKee said, “What I see in the Apple move is that Buy Now Pay Later is increasingly being considered a feature rather than a standalone business.”

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