What is BNPL?
Buy now, Pay later (BNPL) is a short term revolving financing product that permits individuals to make purchases and pay for them at a later time. When opting for BNPL payment, individuals usually will not have to make a downpayment and can select several repayment options spreading the repayment of the purchase amount over a series of interest free or interest bearing installments. The entire customer lifecycle from onboarding and credit evaluation, to transaction, balance checks, and repayment is conducted via Mobile App.
BNPL emerged in the early 2010s in order to provide a more accessible financing alternative to credit cards that is much faster, more convenient and less regulated. Over time, it became increasingly more popular, especially amongst younger generations. Some of the key BNPL players worldwide are Afterpay (Australia), Klarna (Sweden), and Affirm and PayPal (United States). These are most commonly used in Europe, Canada, and the United States.
Carried by the increase in e-Commerce transaction during the Corona pandemic, the global transaction value of BNPL almost quadrupled between 2019 and 2021 from 34 billion USD in 2019 to 120 billion USD in 2021. The growth potential is immense with an anticipated Compound Annual Growth Rate (CAGR) of 49.8% to 576 billion USD in 2026. It is clear that the BNPL market has great future potential, but appropriate adjustments will have to be made to the current business model.
The current business model applied by almost all BNPL players is predominantly growth oriented. Most transactions are interest free and profits will be generated from transaction fees paid by the merchants and fees and interest charged to late paying customers. The model has been supported by the low interest rate environment and high consumptive spending levels. However, with record inflation levels at the end of the Covid pandemic and aggravated by the war in Ukraine, most central banks turned away from years of low interest policies and started to increase interest rates. Rising interest rates will impact BNPL providers in two ways. Firstly, lending to consumers will become more expensive, but the intense competition on the market will not allow companies to pass the higher funding rates on to their customers. Secondly, it will be more difficult and more expensive to raise capital. According to the Wall Street Journal, Klarna is considering raising their capital at a valuation of US$15 billion which is “a dramatic decline from Klarna’s mid-2021 valuation of more than US$45 billion and the US$30 billion figure it was reported to be targeting earlier this year.” Furthermore, with most BNPL users belonging to a population segment underserved by banks and with less attractive credit profiles, the underlying inflation will hit BNPL customers the hardest. A higher share of buying power will have to be used for daily necessities leading to higher credit appetite, but much lower ability to service loans.
In addition to the current economic challenges that Klarna and many other BNPL providers face, new BNPL providers are entering the market. In a developers conference, Apple “announced plans to launch its own “pay later” loans on Monday, expanding an array of financial services products which already includes mobile payments and credit cards.” The product is called Apple Pay Later and allows users to pay over four equal installments, monthly without interest. Apple, the world's second largest smartphone manufacturer worth $2 trillion dollars, could increase competition for customers within the BNPL market. According to CNBC, Affirms shares have already dropped by 17%.
BNPL in Indonesia
With a large population of 279 million, a 75% smartphone adoption rate and a very low 5% credit card penetration, Indonesia is predestined for BNPL. The market has already reached a transaction volume of 1.5 billion US$ in 2021 and is expected to grow to 8.5 billion US$ by 2028. The largest player in the market, Kredivo, has started its service in 2016 and holds 50% market share. The market is highly competitive, and strongest competitors are venture capital backed financial Apps Akulaku, Indodana and Julo as well as various cross overs from other industries such as GoPayLater (ride hailing), Shopee, Blibli, Traveloka, Bukalapak, Lazada (e-Commerce), Home Credit (market leader in unsecured offline consumer lending) and OVO (leading e-Wallet provider). The market entry of global power houses Apple and Revolut however will not be a game changer in Indonesia. Apple has a very low market penetration with only 9% smartphone market share, and Revolut has no relevant market presence at all.
A much bigger threat is rising inflation rates, driving fear of increasing interest rates and recession. As most BNPL users in Indonesia belong to the less affluent population segment, a potential recession will hit them the hardest. Expenses for daily needs will increase, thereby increasing the need for credit, but reducing the ability to pay loans. For Indonesian BNPL providers this poses a difficult question. Becoming more selective in customer underwriting, or attempting to pass on higher interest rates to customers, will result in customers turning to competitors for credit, while continuing to push for growth may critically overdept individuals and result in higher default rates affecting profitability.
The BNPL market in Indonesia is at a crossroads. High competition and strongly growth driven market players provided ample opportunity for credit, constantly increasing individual debt levels. With the rising inflation levels and pending increase in interest rates, this will not be sustainable any more. BNPL providers will have to moderate growth ambition and become more prudent in customer selection and risk management. In order to provide healthy profitability for BNPL providers in the future, the market will have to undergo a consolidation and reduce the number of competitors in the segment.