news.cuna.org/articles/120221-buy-now-pay-later-alters-the-point-of-sale-landscape
2021_12_120221

Buy Now Pay Later alters the point-of-sale landscape

‘See who’s making payments to point-of-sale lenders and market other products to them.’

November 30, 2021

Remember the “layaway plan?” 

Before credit cards permeated the mass market, these programs were a popular way for Americans to pay for large-ticket items.

A department store would reserve an item on the back shelf for one of its customers (holiday gifts were a common target). The buyer would make payments over time—presumably a little each payday—and once the balance was covered they took the goods home.

Fast forward to 2021, where a high-tech version of the same model has become the hottest item in e-commerce. 

Everyone wants a piece of the Buy Now Pay Later (BNPL) market. Valuations of stand-alone players such as Klarna and Afterpay have skyrocketed, Amazon has partnered with major player Affirm to move even further into the space, and incumbents like PSCU and Mastercard are racing to develop offerings for use by their financial institution customers.

Modern-day BNPL differs from legacy layaway plans in a few key respects. They have mainly built their name in support of online purchases—the resulting gains in “cart conversion” are the key selling point for e-commerce merchants. 

Installments are almost always auto-debited, typically via automated clearinghouse or debit card. And in perhaps the biggest difference, the consumer receives their goods upfront upon making an initial partial payment at the point of sale. 

It’s hard to overcome the appeal of instant gratification.

BNPL first gained traction in Australia, the European Union, and the U.K., markets where credit card debt is less common. In the U.S. it’s being marketed as an alternative to revolving debt, providing a clearer path to full repayment, often in the form of a merchant-funded, interest-free loan. 

Given the tendency for younger American consumers to favor debit over credit cards, as well as their gravitation toward e-commerce, many financial services experts view BNPL as a significant threat to outstanding card balances.

As of Sept. 30, U.S. consumer card debt is down 13% from the high set 18 months earlier and has receded to levels commonly seen four to five years ago.

But is BNPL really the culprit? Let’s take an objective look at the rapidly evolving space, including the perspectives of some supporting players, to better understand the risks and opportunities the model presents for credit unions’ bottom lines, as well as their members. 

Financial services experts view BNPL as a significant threat to outstanding card balances.
 

What’s the catch?

"They’re so easy to use, they almost seem too good to be true. Is there a catch?” 

SELCO Community Credit Union’s newsletter article on BNPL opens by precisely stating the question members are hopefully asking. The $2.4 billion asset credit union in Eugene, Ore., then provides an objective and informative overview of the service’s pros and cons.

Other credit unions have taken similar valuable steps toward member education.

A recent McKinsey study found that 30% of consumers opting for BNPL would either have made a smaller purchase or not completed the transaction at all absent this financing option. 

This is essentially the same value proposition underpinning merchants’ credit card acceptance, and the additional cart conversion, particularly at online shopping sites, has succeeded in convincing merchants to fund such programs at prices exceeding card interchange.

According to a TransUnion study, however, BNPL activity is not necessarily coming at the expense of credit card transactions. 

“A large portion would have used a debit card or cash, or not made the purchase at all,” explains Liz Pagel, TransUnion’s senior vice president of consumer lending.

Both McKinsey and TransUnion research found that roughly one-third of BNPL purchases would otherwise have gone to credit cards.

“We found those who applied for BNPL actually had more credit cards and more credit available to them” than the average consumer, Pagel says. “The point-of-sale loan appealed to them. They liked the idea of splitting the payments, and the interest-rate benefit.” 

A savvy consumer could achieve much the same effect by adhering to a strict card repayment schedule, but this would require a lot of discipline and no revolving balance.

As Pagel sees it, BNPL is “growing the overall credit pie; it’s not a zero-sum game.” 

She says BNPL applicants continue be more “credit active” than other consumers, both in using existing cards and applying for new ones. “This is just another tool available to them.”

TransUnion’s data also debunks the notion that BNPL is purely a young person’s product. “Twenty-one percent of applicants are over 50, so they’re not ignoring it,” Pagel says. 

The online experience is the primary driver behind BNPL’s high profile. By embedding the service into their site navigation, merchants can deliver a “splash screen” making consumers aware of the offer at any point in the shopping experience, potentially inducing them to spend more—and to opt for a payment instrument other than a credit card. 

The opportunity for such site integration and prominent preemptive offers is why Amazon’s recent partnership with Affirm drew so much attention.

NEXT: BNPL alternatives



BNPL alternatives

Credit unions are understandably motivated to create their own BNPL alternatives to address member needs, avoid disintermediation, and generate revenue with a member-friendly model.

PSCU, a CUNA associate business member at the premier level, is developing such a credit union-centric offering. It’s scheduled to enter pilot phase by year end preceding an early 2022 general launch.

A key difference to the PSCU model is that it does not require merchant integration; it can be made available to all cardholders by a credit union choosing to offer the service. 

“It’s not merchant-dependent. Members can make a purchase, planned or unplanned, and later through the digital experience decide to break it up,” says Jeremiah Lotz, PSCU’s managing vice president of digital experience & payments. “Or they can go into the purchase knowing they have that choice.

“From a PSCU perspective, our goal is to give the flexibility to the credit union to create and customize the solution,” he continues. 

Participating credit unions can elect to enable only certain purchase sizes or merchant categories, assess a one-time fee or specified interest rate, and determine the range of allowable installments. 

Credit unions also have the latitude to brand the product as they wish. PSCU is calling it “Installment Payment Solution,” but each credit union may craft the marketing message to its own member base.

“We see this as an initial opportunity to step into the space but also to evolve as consumer expectations change,” says Lotz. “We’re more worried about disintermediation than cannibalization.”

Those consumer expectations are likely to evolve as BNPL goes further mainstream, product features are tweaked, and regulators have their inevitable say. 

‘It seems natural for credit unions to participate in the evolution of this space to both foster financial prudence and to preserve their role as the hub of members’ financial lives.’

Regulatory scrutiny

As for the “too good to be true” aspect SELCO raises, let’s consider the underreported downsides of BNPL, including the fact that it can function as an interest-free loan—until it doesn’t.

A missed payment often results in a significant penalty fee, as well as the imposition of interest charges and/or fixed processing fees on remaining installments. 

It’s worth noting that in BNPL, a “missed payment” is rarely the result of a forgetful borrower but rather a nonsufficient funds (NSF) rejection at the time of auto-debit. 

This can trigger NSF events at the credit union as well, particularly because BNPL auto debits are often scheduled to coincide with the bi-weekly or monthly influx of a paycheck.

The Consumer Financial Protection Bureau has begun to express interest in BNPL’s disclosure and fee implications. Some providers have responded by pulling back from the “free upfront, until you miss a payment” revenue model.

OpenPay, a leader in the Australian BNPL market that recently entered the U.S., has taken a different approach: It applies a nominal processing fee to each transaction. 

It will be interesting to see if this transparent pricing approach gains traction without the “always free to the consumer” hook. 

Financial regulators in the U.K., where BNPL gained mass market acceptance earlier than the U.S., have closely analyzed these products following widespread reports that many consumers used them last holiday season to outspend their means, later missing payments and incurring penalty fees. 

In mid-October, market leader Klarna preemptively revamped its terms and conditions, clearly spelling out that BNPL is a “credit offering” and more visible disclosing its penalty fees.

Curiously, Klarna also added a “pay now” button to its checkout screen, seemingly overriding the “pay later” feature core to its value proposition.

A subtler and potentially more troubling issue for both credit unions and their members is the loss of visibility into future obligations. Consumers who become acclimated to using BNPL on a regular basis could lose track of upcoming obligations, which may be spread across multiple providers. 

“Safe to spend” personal financial management functionality may also lack access to this information, as do credit reporting agencies, complicating decisioning for existing loan products.

Most BNPL repayment periods extend for no more than 90 to 120 days. But there is nothing to prevent them from running longer or, if the provider is willing to accept the risk, for larger ticket items. 

The model is already applied to larger, longer-term (and often offline) purchases like medical procedures and home fitness equipment.

As SELCO’s primer points out, BNPL “is especially handy if you have an urgent purchase (like medical equipment not covered by insurance) that you may not be able to afford right now.”

However, the credit union also cautions it can encourage impulse purchases, and McKinsey’s research finds the most common use cases include apparel and beauty products.

Nonetheless, consumer behavior is strongly indicating market demand for an installment payment product in the spirit of BNPL. 

It seems natural for credit unions to participate in the evolution of this space—even if purely though member education—to both foster financial prudence and to preserve their role as the hub of members’ financial lives.

Pagel advises credit unions to examine their checking data. “See who’s making payments to point-of-sale lenders and market other products to them. These are credit-hungry consumers.”

GLEN SARVADY is managing principal at 154 Advisors.