Pay later, not never: What 'buy now, pay later' spells for consumer debt and the easy credit business model

There's a new way to borrow at the checkout counter, and it's finding favour with shoppers on a tight budget.

Termed "buy now, pay later" (BNPL), these interest-free, short-term payment plans have captured a sizeable audience in credit-starved, cash-strapped millennials and Gen Zs. From sneakers and skincare products to coffee machines and ergonomic chairs, purchases can be split into instalments at checkout - both online and in stores - on a range of everyday items, effectively offering credit terms to those who do not have, or cannot get, a credit card.

BNPL pioneer Klarna is now the highest valued fintech in Europe with a valuation of over US$10.6 billion. Australia's first mover Afterpay recently doubled its full-year revenue to A$519.2 million (S$497.8 million) for the financial year ended June 30, 2020.

Singapore has seen its fair share of homegrown BNPL providers as the trend gathers steam in Asia amid Covid-19 uncertainties. In early 2021, the Monetary Authority of Singapore confirmed to BT that it is, along with other government agencies, "reviewing the appropriate regulatory approach" for such schemes.

Founded in 2016, Rely is the first fintech to set up shop here. Its rival, hoolah, launched over a year later. Other players Atome and OctiFi joined the race this year. Meanwhile, incumbent banks have also launched interest-free BNPL solutions on top of credit card offerings.

A recent report by Worldpay from FIS found that BNPL is one of two online payment methods forecast to gain global market share between now and 2023, with the other being digital and mobile wallets. Across the Asia-Pacific, e-commerce transactions using BNPL are also expected to more than double by 2023.

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About 38 per cent of Singaporeans, or 1.1 million people, have used a BNPL service, according to a separate report by financial comparison platform Finder.

BNPL's "zero interest" hook is certainly reshaping the way we view instalment loans, lending a much-needed rejuvenation to the retail scene. The service is layered on top of a customer's existing debit or credit card and is not restricted to banks that offer instalment plans. But of course, nothing is as good as it seems.

Industry watchers flag risks of a false sense of affordability and hidden late payment charges that could introduce bad debt.

These observers also question the credit risk assessment capabilities of BNPL providers here; most do not have access to the wealth of consumer and enterprise data that banks do.

And the scalability of BNPL business models remains to be seen. In offering zero interest, these firms make money by taking a cut from their merchants' revenue sales and charging consumers late payment fees.

"For now, it is viable as long as merchants see value in increased shopping cart conversion and the share of fees charged by BNPLs is manageable," says Shirish Jain, director at PwC's strategy consulting arm, Strategy&. "Of course, that is till the next innovative alternative comes to the marketplace."

Easy, instant access

The concept of BNPL is not all new. Interest-free instalment plans for credit card purchases have long been offered by banks, and are often used for big-ticket items such as furniture and home appliances.

But what propelled BNPL providers Klarna and Afterpay into billion-dollar businesses was the speed and ease at which they extend credit.

These include near-instant approval of credit, no price shock or perceived lack of interest rate shock, and overall convenience of finance in the moment of "want", Mr Jain tells The Business Times.

Banks typically undertake extensive levels of credit scrutiny and require proof of income before extending credit to consumers. But BNPL players take a "lighter touch approach" in evaluating credit-worthiness.

This means no credit checks, no debt discussions, no income assessment, and no having to submit minimum three months of payslips, among others.

From a customer's perspective, this provides a much faster, simpler and better experience, says KPMG partner Umair Hameed.

Anyone above the age of 18 can create a BNPL account with providers like hoolah and start shopping in instalments almost immediately.

These firms are able to tap into a wider net of consumers by providing credit for smaller amounts, and having lower requirements for information, says Ho Kok Yong, financial services industry leader at Deloitte.

In countries where BNPL services have been successful, they were able to enable outcomes that weren't possible from the incumbents, he adds.

In Singapore, BNPL's key customer segment is between ages 18 and 35, with an average order value of around S$200 to S$300. Maximum transaction limits vary. Rely, for instance, puts a S$1,000 cap on debit card purchases, and a S$4,000 limit on credit card transactions.

There are also no annual account fees for BNPL services in Singapore for now, compared with most credit cards.

Flexible financing

Local BNPL players OctiFi, hoolah and Atome divide the cost of a purchase into three interest-free, equal monthly payments for its customers.

With Rely, shoppers have the option to pay in four payments due every two weeks, or pay in three monthly instalments.

In Asia where 80 per cent of consumers are price-sensitive, the ability to make small payments over a short period of time - sans the cost and longer-term commitment of credit cards - is alluring.

A Singtel survey found that 41 per cent of buyers abandon their carts because they are not ready to purchase, while 25 per cent of buyers don't check out because of high prices.

This represents part of the addressable market for Singapore's BNPL providers, says Siska Melinda, associate at consultancy Frost & Sullivan in Asia-Pacific. She projects for a 20 to 40 per cent increase in the number of orders and average spend due to BNPL adoption.

It further helps that consumers in Singapore are open to innovation and reward convenience with loyalty.

The growing use of relatively new digital payment methods such as GrabPay, ApplePay and PayNow is testament to that. There is also a shift away from traditional forms of credit, says Zhi Ying Barry, senior analyst at Forrester.

One can almost draw a parallel to the transport market, where consumers have responded well to ride-sharing apps amid a well-established taxi system, PwC's Mr Jain adds.

As consumer income takes a hit in the wake of the pandemic, instalment plans may appear more attractive as they enable consumers to spread their expenses over a longer period, says Deloitte's Mr Ho.

hoolah claims that transaction volumes have grown over 700 per cent year-to-date, with topline sales up more than 350 per cent.

During the circuit-breaker period, Rely's online merchants were making two to three times of their usual volumes. Consequently, the firm has been taking a larger cut from its merchants' sales revenue, says Rely CEO Hizam Ismail.

A fresh report by payments firm Adyen found that 54 per cent of Singaporeans surveyed plan to shop more online despite the easing of restrictions, higher than their global (36 per cent) and Hong Kong counterparts (47 per cent).

Atome, the consumer arm of digital bank hopeful Advance.AI, says that its 1,000-odd merchants have seen a 20 to 30 per cent increase in conversions, and as much as a 30 per cent increase in average order size.

Debt trap

"Say goodbye to high interest rates and escalating debt," reads a line on OctiFi's website.

"Get what you need now, pay only 1/3 upfront," reads another on hoolah's platform.

Much of BNPL marketing material tends to focus on the value to be derived from a purchase and not necessarily on the affordability of a customer to pay back, KPMG's Mr Hameed tells BT.

BNPL services may give consumers, especially those whose credit profiles may otherwise disqualify them from conventional credit products, a false sense of affordability and encourage them to over-commit with multiple instalment plans, warns Deloitte's Mr Ho.

Fresh data from Finder showed that 27 per cent of 1,008 Singaporeans surveyed admit to being financially worse off when using a BNPL service, with impulse buying being the most common mistake. About 11 per cent also said they have overstretched their budget so far that they struggled to pay for other expenses.

A separate OCBC survey found that 41 per cent of millennials in Singapore struggle to stick to their savings plan. Only 66 per cent managed to stick closely to their budgets. The ease with which younger consumers can access credit also raises valid concerns. OctiFi and hoolah's minimum user age is 18, while Rely sets 21 as its minimum age.

Younger consumers are more likely to walk into unsuspecting debt traps, exacerbated by lower levels of financial literacy.

"Will they turn to their parents for help? Or will they take up more loans to pay off their debt? There will be some who will ignore the problem because they're scared, and things will only get out of hand," says Tan Huey Min, general manager at Credit Counselling Singapore.

She adds: "Sellers should be more responsible and maybe prompt customers to do a bit more thinking before they check out. But of course, as sellers, it's not to their benefit."

It doesn't help that penalties on late payments are not upfront. Checks by BT found that most BNPL fee structures are buried in lengthy T&Cs. It's not easy to find such information on most BNPL websites, unless a user specifically looks up "late fees" on Google.

BNPL fintechs in Singapore are, for now, not held to the same regulatory standards as banks. They are not licensed under the Payments Services Act or the Moneylenders Act.

"They may tell you that there's a fee if you miss a payment, but they may not always tell you about the additional interest they may charge, or how the fees accumulate," says KPMG's Mr Hameed.

For example, Atome will freeze a customer's account and charge a S$20 admin fee if an instalment payment is missed. If this admin fee and outstanding payment are not paid within seven days, an additional S$10 fee is imposed.

hoolah charges a S$15 late payment fee each time a customer fails to pay on time. This applies to order values between S$100 and S$999.99, and is subject to a cap of S$60, which works out to 6 per cent of a S$1,000 purchase but 60 per cent of a S$100 buy.

Given that BNPL providers do not charge interest on credit, penalty fees are a sizeable contribution to revenue and an important source of cash flow, says Deloitte's Mr Ho. Australia-based Afterpay's latest full-year revenue of A$519.2 million includes A$69 million from late fees. In Singapore, about 9 per cent of those surveyed by Finder have had to pay a late fee.

Managing credit risk

While the easy credit is both a boon and hidden danger for consumers, BNPL providers face the dual challenge of credit defaults from their consumer customers as well as merchant fraud.

To measure consumer credit risk, lenders typically resort to demographics and behavioural aspects such as occupation, residence, income, outstanding debts and credit history, says Arun Baid, global delivery head for banking, financial services and insurance at Cognizant.

But BNPL's key market of young millennials may not have built a credit history yet.

The inherent risks of BNPL business models are high as their services are more likely to appeal to consumers with weaker credit profiles, Deloitte's Mr Ho tells BT.

BT understands that most BNPL players in Singapore built their risk management systems in-house and conduct assessments internally. They have also tried to minimise bad credit risk by applying a credit limit to each customer.

Considering their limited scale, it is "highly unlikely" for BNPL firms to build a sophisticated in-house credit rating system like that of China payments giant Ant Group, says Frost & Sullivan's Ms Melinda.

She reckons it could be possible to compile data from BNPL providers and build a centralised national database for credit scoring. "But this approach might not happen unless the government makes it compulsory through regulations."

Regulatory grey areas in the Singapore finance scene do little to ease the concerns of industry watchers.

If these firms are conducting straight lending to consumers, they would come under the Moneylenders Act or the Hire Purchase Act under the Ministry of Law. They could also come under the Payments Services Act if deemed to be providing one of the seven regulated payments activities set out by the Monetary Authority of Singapore. Under the Act, licensed entities are prohibited from lending to individuals in Singapore.

But if BNPL fintechs are providing funding to merchants for them to in turn provide deferred payments to consumers, these firms would likely be exempt from regulation, says Deloitte's Mr Ho.

Depending on the uptake of BNPL schemes, the government could become more concerned about financial stability and prudence and may over time require closer monitoring or restrictions on BNPL activities, he adds.

Globally, new-age lenders have started complementing traditional risk assessment models with consumers' psychometric or social behaviours, by combining data from official sources and social media platforms, says Cognizant's Mr Baid.

To manage merchant fraud risk, Atome CEO David Chen tells BT it leverages its parent firm Advance.AI's tech and database of over 800 enterprises in the region to manage assessment issues like risk underwriting.

Staying alive

In providing near-identical solutions, BNPL players compete fiercely with each other, raising question marks over their long-term survival.

Incumbents are also alive to the trend. UOB's SmartPay! feature, for instance, allows customers to convert credit card bills or selected transactions to interest-free instalments over six or 12 months with a one-time processing fee.

"The BNPL business model does not have a high entry barrier and is relatively easy to replicate. BNPL startups had better look for extensions of their services to add more value to consumers," says ESSEC Business School professor Jan Ondrus.

These firms can look differentiate themselves in three key areas. Firstly, customer loyalty can be built by complementing BNPL with cashback or rewards that encourage repeat purchases. The variety of merchants is the second key differentiator, says Phil Pomford, Worldpay global e-commerce general manager.

The last point would be how and where firms make BNPL available, such as through overlay services like automated payment scheduling, QR code and cross-border payments to offer more convenience, as well as being omnichannel, Mr Pomford adds.

hoolah recently extended its BNPL services to physical stores in Singapore. It also integrated with national authentication system SingPass and introduced a one-click express checkout for online payments.

Rely's merchant strategy is to acquire more enterprise retailers to bump up payment volumes. It counts e-commerce platform Qoo10 as a partner, with more "big names" expected in 2021, says its CEO, Mr Ismail.

"BNPL startups can only survive if they capture enough customers who regularly spend a large sum of money," ESSEC's Prof Ondrus notes.

Considering Singapore's population size, it is unlikely for local BNPL players to match the scale of Klarna and Afterpay unless they build a regional presence, Frost & Sullivan's Ms Melinda tells BT.

hoolah has since expanded into Malaysia and Hong Kong, with an eye on Thailand and other parts of North Asia in the next six to 18 months. Atome's BNPL services are available in six Asian markets, with plans to move into Thailand soon.

Meanwhile, their regional competitors are already fired up. In Indonesia, established fintechs Ovo, Gojek, Shopee and Traveloka have all launched BNPL services. The Philippines' BNPL startup BillEase has over 350,000 user accounts, while rival Cashalo saw 6.5 million app downloads since 2018.

"Expansion to other countries will not be easy, due to the availability of existing competitors with similar business models," says Ms Melinda.

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