Buy Now, Pay Later – Zipping into Focus

As we swing into the holiday season and the parcels from Black Friday continue to land on your doorsteps, it felt apt to unzip the “Buy Now, Pay Later” (BNPL) industry in more detail; particularly focusing on Zip. BNPL has transformed from a nascent industry into a mature, fully-fledged component of retail payments.

BNPL has its roots in the 19th century, originating from instalment plans that allowed consumers to purchase expensive items like furniture and farm equipment by paying over time. The modern BNPL concept began to take shape in the late 2000s and early 2010s as fintech innovation progressed. Klarna, founded in 2005 in Sweden, is recognised as the original player in the Buy Now, Pay Later market. As the largest BNPL provider by transaction volume globally, over 85 million users and north of 500,000 merchants in 26 countries¹, Klarna has significantly influenced consumer shopping behaviour. It pioneered the BNPL model, allowing consumers to make purchases and pay for them in instalments without incurring interest or fees if payments are made on time.

So how exactly does it work?

BNPL services allow consumers to receive a product now and pay for it in smaller instalments over a set period. The application process allows for instant credit at the point of sale with BNPL players performing bespoke credit approval processes and utilising data from a multitude of sources and learned customer behaviour over time. The credit approval process has zero impact on a customer’s credit score, alleviating many consumers fears of being blacklisted as can happen with more traditional credit products. Most BNPL players allow the consumer to repay their debts through interest free instalments (for example, “Pay- in-4”) and charge the merchant a higher fee instead. Some, like Zip, charge the consumer an instalment fee at the point of each repayment or a monthly account fee. BNPL is generally available both online and at select retailers depending on who the specific BNPL player has integrated with from a merchant perspective.

Importantly, BNPL manages the extension of credit on a per transaction basis (unlike credit cards) which allows BNPL players to control their credit losses more tightly. Should a customer not meet their instalment obligation for a specific transaction, the credit tap can be switched off quite easily.

Gen Z and Gen Y are driving BNPL gains

With the near-irresistible promise of interest-free credit, BNPL growth could pose a real threat to credit card providers in the coming years. BNPL is growing in popularity, especially among younger consumers. Gen Z and Gen Y are the most likely to use BNPL services.

In Australia where BNPL usage is well penetrated, 41% of Australians have used BNPL in the past six months². BNPL usage has grown most rapidly among the Gen Z cohort (born between 1995 and 2010) where usage over a six-month period has increased from 37% in 2020 to 64% in 2023². The cohort’s distrust for traditional credit, often viewed as predatory, has not transferred to BNPL which has been embraced for smaller purchases and provides appeal given flexible, convenient, and user-friendly onboarding. With Gen Z accounting for around 36% of retail spend in Australia currently and this figure expected to grow to 48% by 2030³, it is unsurprising that BNPL is continuing to gain traction.

Ecommerce putting a wind in BNPL sails and visa versa

According to Mastercard, Black Friday online retail sales increased 14.6% in 2024, while in-store sales were up a more modest 0.7% compared to last year. Online sales are showing signs of reacceleration after a post-pandemic dip and as online shopping continues to grow, many consumers want more payment options that are open and fit their budgets. As the number of people who shop online continues to rise, BNPL has enabled consumers to make purchases without having to pay in advance. This has resulted in increased sales for companies offering BNPL services.

Separating the Winners from the Losers

In 2022, the plight of many pure-play BNPL players took hold as several rate rises commenced and general sentiment towards fintech soured. Looming regulation over the sector added to the woes as several government bodies sought to bring BNPL in line with more stringent credit standards. Valuations of pure-play players were subject to an circa 80% drawdown through late 2022 and into early 2023. Even Klarna, the leading BNPL player, could not avoid the rout and had its price tag slashed from $46bn to $6.7bn at a difficult fundraising round in mid-2022⁴.

Interestingly, consumers countered those headwinds by choosing BNPL more than ever. In Australia, BNPL adoption hit an all-time high in July 2022 (49%) and has dropped back down to usual levels since then². Credit card annual percentage rates have risen on average from 15.05% in 2019 to 21.76% currently⁵ and have potentially driven further adoption of the simpler and less intimidating BNPL product offering.

The BNPL market has consolidated with larger players acquiring smaller ones to achieve scale and market share and diversify their product offering. Block (formerly Square) acquired Afterpay for $29 billion in February 2022. Headwinds which started in 2022 and continued into 2023 saw at least a dozen BNPL firms discontinue operations entirely (see Figure 1 below), including Openpay and Latitude Pay in Australia, Laterpay in Germany, myIOU in Malaysia, Zest in India and Pace in Singapore⁶. As the market continues to evolve, further consolidation is expected with larger, more financially stable BNPL providers likely to acquire smaller, struggling competitors. Some players – such as Zip and Clearpay (Afterpay’s European brand) – pulled services from the European market and several loss-making operations to focus on their core markets and opportunities.

While several commentators on the BNPL sector perceive the future winners in the BNPL race to be those for whom BNPL is not the primary business model; it stands to reason that a pure play focus has proven to be valuable. Apple recently discontinued its BNPL service “Apple Pay Later” after it was introduced in March 2023 and shifted its strategy to partner and outsource its lending program with two established pure-play BNPL players Affirm and Klarna. A competitive landscape and the challenge of building a BNPL offering from scratch likely influenced Apple’s decision. Google have taken a similar approach through their partnership with Affirm and Zip to provide BNPL services via its Google Pay wallet. Banks have attempted to enter the fray (for example, NAB Now Pay Later; CBA StepPay; My Chase Plan) but their processes are clunky and inconvenient and mistrust for traditional financial institutions among the typical BNPL cohort is high. Creating a better estimate of an individual’s creditworthiness than the traditional credit score (e.g. a FICO score in the US) is clearly more difficult than anticipated.

The Opportunity

Geographically, Sweden stands out with the highest share of BNPL payments in e-commerce in the world; around 21 percent⁶ currently. Australia is not far behind with an estimated 15% in e-commerce payments⁶. While several markets appear mature, interestingly the US presents an opportunity for growth given that BNPL accounts for just 5% of 2023 online spending⁶. The US has significantly lagged other countries in payment system modernization, and this has potentially hindered the rise of BNPL. US consumers also demonstrate strong attachment to credit, debit and prepaid cards which accounted for 71% of all 2023 consumer spending6. Card spend is increasingly occurring within wallets, which are the fastest growing payment method in the US in both e-commerce and at the point of sale. While cards may be dominant, BNPL is gaining ground and as mentioned previously, several players are integrating with digital wallets via the use of virtual cards.

We home in on the US given Zip’s clear focus on this market to deliver future growth. Zip currently operates in the more mature ANZ market and the US. Importantly, Zip focuses on the underserved sub-prime consumer who typically don’t have access to a credit card. Estimates vary on the size of the underserved market but almost 50 million Americans fall within the sub-prime category. Zip’s bespoke credit score provides a more nuanced assessment of a customer’s ability to repay their debt and hence caters for a market untouched by the credit card companies.

While the market has consolidated in the US, there are several strong players; namely Klarna, Affirm, Afterpay and PayPal. That said, Zip’s focus on the sub-prime customer has provided a gap where several BNPL players don’t play, and the competitive landscape appears to be rational given that all players are still capturing significant growth from the cohorts they cater to. Zip’s management have noted they expect US BNPL total transaction value growth of 30 to 32 percent over the next 12 months⁷.

In Summary

Interest-free payments, the ease of use and approval, budget management, increased spending power and perceived financial control are increasingly attractive to many consumers. BNPL services have seen immense global growth since their formation and are showing no signs of slowing down with several players continuing to expand their product offering and innovate to bring more consumers into the fold. We continue to hold a position in Zip as we believe they are well positioned to capture a significant share of the growth in the US.

Author: Rachel Thomson, Senior Analyst.

1. https://www.klarna.com/international/about-us/. 2. Source: Finder, “Buy now pay later statistics 2024”, https://www.finder.com.au/buy-now-pay-later/buy-now-pay-later-statistics. 3. https://www.redsearch.com.au/resources/gen-z-marketing-statistics-australia/. 4. Source: Financial Times: “Klarna’s valuation crashes to under $7bn in tough funding round”, https://www.ft.com/content/66b65d 68-d62e-4aec-a1ada7d9e2ba0435. 5. Data retrieved from Official Federal Reserve data releases on Consumer Credit, https://www.federalreserve.gov/releases/g19/current. 6. Source: FIS/Worldpay, The Global Payments Report 2024, https://worldpay.globalpaymentsreport.com/en. 7. Source: Eiger Capital from several discussions with Zip management.