Buy Now Pay Later: Fastest Growing Payment Method

Buy Now Pay Later (BNPL) is both an alternative payments method and a form of credit, which allows consumers to pay for goods in interest-free instalments. It has been popularised in e-commerce throughout the COVID-19 pandemic, but it has broadened to face-to-face point of sale, rapidly expanding the target market for consumer credit.

BNPL is becoming a key space to watch for investors. Although BNPL currently only represents a small part of overall purchases – only 2% of global online purchases in 2020, higher for Europe at 7%, with Australia further ahead at 10% – BNPL companies have raised around €2billion year to date in private equity and venture capital funding, proving to be one of the fastest-growing fintech segments. 

While point of sale (POS) financing and credit cards have been around for a long time, BNPL brands and their marketing and distribution are resonating with Gen Z and Millennials, thanks to the simplicity of the product. The potential growth from the generational shift is significant, with the overall share of retail spending from Millennials and Gen Z expected to be as high as that of Gen X and older cohorts by 2030 across the UK, the US and Australia. With the potential for this to converge with a lowered use of credit cards, Morgan Stanley sees a potential risk to some banks' business models.

Exhibit 1: BNPL is the fastest growing payment method globally, and some markets in Europe see the highest adoption

Exhibit 2: Millennials and Gen Z are expected to account for half of retail spending by 2030, across the UK, the US and Australia

From a financing perspective, BNPL is very similar to traditional POS lending and credit cards: it resembles POS financing because it is typically offered at checkout, but it is usually assimilated to credit cards, because maturity is shorter than the traditional POS, and amounts are typically less than $500. Yet in Morgan Stanley’s view, the customer experience is very different compared to traditional credit cards and POS. BNPL offers “credit with clarity” given capped fees and no interest for the consumer.

There is always a chicken and egg problem when a new payment method is introduced. There needs to be a strong incentive for customers and merchants to move from using the currently entrenched payments methods to the new one, otherwise the merchant wouldn’t incur the costs of accepting it, and the customer wouldn't bother holding a new card, or downloading a new app, or registering for a new service.

For BNPL, the incentives on the customer side are clear, as customers can delay the payment for the goods they are purchasing without having to pay interest and often without incurring a credit check or being affected in terms of their credit score if they pay late. But there is more on offer than just a new way to borrow money. Leading BNPL providers are building integrated shopping platforms that engage customers throughout their purchase journey. Consumers can track spending and budget purchases and access an online marketplace, where they can create and share their own wish lists, get price drop notifications and delivery tracking, and understand the CO2 footprint of their shopping. Other popular features include connecting other bank accounts and cards via open banking, an overview of all purchases and a 24/7 chat function. 

On the merchant side, at first sight BNPL seems rather expensive. However, industry experts suggest that merchants see higher transaction sizes and higher loyalty after introducing BNPL providers at checkout. A report from PYMNTS.com for example found that BNPL solutions increase Millennials' order sizes by an average of 44% and increase overall basket conversion by 30%.

In Europe, customers use this payment means mostly for discretionary spending categories, in particular apparel and footwear, fitness, accessories and beauty. This in part overlaps with what credit cards are used for. However, leading BNPLs are starting to diversify to other segments, for example, Afterpay and its recent partnership with eBay in Australia (whose main categories are vehicle parts and accessories, home and garden, and electronics). In Australia, Afterpay is also accepted for services such as dentists, optometrists and veterinarians, and it has recently added concerts and airlines.

Some BNPL providers campaign aggressively against credit cards, and the Australian experience suggests that fast BNPL adoption could lead to slower growth in European credit card balances. In Australia, credit card use fell 11% year-on-year in 2020, with greater adoption of BNPL being a key driver, along with other factors such as greater overall aversion to revolving credit (particularly by younger customers), rapid repayment of existing debt, and reducing generosity of credit card rewards programs.

BNPL players are positioned to continue taking market share in the consumer spending space, given their compelling offers. Banks need to react or risk losing more share. Over the long term, Morgan Stanley believes it is important for banks to potentially roll out a similar offering and develop apps that increase personalisation, customisation and engagement of their customer base.

Morgan Stanley Equity Analyst Andrei Stadnik, who leads Australian Non-Bank Financials Research says, “In the short term, we see limited impact to banks’ earnings, mostly related to a slower growth in credit cards. Over the long term, however, we see a bigger risk, and we stress the importance for banks of developing apps that are able to engage customers.”

To read the full Morgan Stanley Research report, “BNPL – High growth, high val; what's the opportunity?” (Sept 13, 2021) speak to your Morgan Stanley financial adviser or representative. Plus, more Ideas from Morgan Stanley's thought leaders.