35. PI — Pay Later

Credit is not new to us… we all have one or other loan (Home, car, education, agricultural or personal). Banks are the leading entities in lending (that is why they are called ‘lenders’. As banks cannot cater to the need of all users so NBFCs came into prominence where they are specialised in certain types of lending (Against Gold, for vehicle, micro lending etc.). Still the lending was time consuming and had to go through stringent underwriting so to address these aspects, new-Gen FinTech companies are born who made the lending simpler.

In this section, I will be covering unique kind of lending products called pay later products… idea is to give small credit line to users and users can make purchases in partner merchant network and then repay the utilized amount. Few of the big names: Ola Money Post-paid, Simpl, ePaylater, Lazy pay

What are they up to?

People typically want credit to cover or fulfil (a) Big expense (want to buy bike) (b) aspiration (want that iPhone now) (c)Emergency.

But are these pay later products meeting these credit requirements? no… they are not. These companies give small credit line to users so what exactly they are they up to?

Their play is different… here is what they are trying to do

a. Reach: there are only 2.8million credit cards so what about people who do not have credit cards… so give them card-less credit

b. Ease of payment: Card or net-banking transaction goes through 2FA or multiple hops… these payment instruments have simpler user flow

Most of our spends are small ticket e.g. Food order, medicine, post-paid bill or bus booking. So pay later companies are targeting these merchants and trying to replace credit card or other payment instruments.

Do stakeholders see value in these payment products?

Green — Benefits, red-drawbacks

How credit is given:

One simple way is checking the credit score… but millions of potential users are not part of credit score systems… So how do you give credit?

So build your own logic to give credit score to user. This alternative credit scoring can be based on education background, job history, mobile bill, utility bill or social media presence… so on and so on… After that put mix of AI/ML to make sure ‘right credit line’ is given to ‘right person’. Typically, issuing entities start with small credit line and eventually increase it.

Example: At first, I had Rs.1000 credit line from Ola Money Post-paid and now it is Rs.10,000 (I use it for almost all my Ola rides and payback on time)

Working of Pay later products:

A. User on-boarding:

User has to register with one the pay later entities and receive credit line… then user can use the credit line to purchase products or services from merchant network

B. Acceptance:

A pay later instrument can be processed by the same pay later company (this is the case of payment issuer = payment processor). There are two main ways they can integrate with merchants

• Direct: Integrate with merchants directly (via TSP as well)
• Payment Aggregator: Integrate with payment aggregator and they payment aggregator will offer it to its merchants

Standard flow:

• First time flow: Merchant calls eligibility check API (Check whether customer is valid and what is the available credit). Then user to complete authentication leg to complete the transaction
• Subsequent flow: Eligibility check is done and then customer just approves the transaction (no authentication required as token is stored after first transaction)

Note: On-boarding merchants is time consuming process… so ePayLater came up with unique UPI based flow where user gets unique UPI Id and same ID can be used in any merchant’s UPI section (collect request) to complete the transaction (Read more here)

c. Repayment:

Typically, the credit period is 14 -15 days post that user has to repay the consumed amount. Repayment is either active or passive.

• Active: User has to go to issuer entities website/app and pay the outstanding amount through CC, DC, NB or UPI (standard PG)
• Passive: User can set one time mandate (on card or account) and user’s registered instrument will be debited periodically

That briefly covers integration aspects… now important part… money

Who is paying ‘Pay later’ companies

To give credit to customers, pay later company need money or credit line. There are three ways Company achieve it

• Own money: If you have enough money then deploy it. Of course such money also has cost — opportunity cost
• Equity: Raise money from VC or PE and deploy it. Cost of equity is super high so doesn’t make sense
• Debt: Get credit-line from NBFCs or Banks and deploy it. Debt is cheaper than equity but comes with obligation of repayment.

Most of these pay later companies credit from NBFCs and deploy it. When you say debt then that means there is interest component… So question is do these companies pass on that interest rate to merchants or customers?

Revenue Models:

These company’s do not charge interest to merchant but charge TDR that is cleverly arrived after factoring interest rate (that needs to be paid back) and other costs including write-off to be done for Non-performing Assets (NPAs- users who do not pay back)

Why TDR model?: Merchants understand this model and are used to it (as all payment modes work in this model)

Here is the detailed working of the revenue model:

Revenue lines:

• TDR from merchant

Cost Items:

• NBFC interest amount
• Charges borne during repayment
• NPAs (non-performing assets or write offs)
• Infrastructure cost
• Customer acquisition cost (including promotion offers)

In summary: To be profitable the company has to get lowest interest rate from NBFC, reduce repayment charges, control customer acquisition cost and charge higher TDR to merchant but most importantly, reduce NPAs.

Impact on change on profit:

• If average PG charges (combination of CC, DC, NB, UPI) reduced from 1% to 0.9% then profit increases by Rs.4
• If lending rate is reduced from 15% to 12% then profit goes up by Rs.3.53
• If merchant TDR is higher (1.50% to 1.70%) then profit becomes Rs.8

All looks good unless you come across NPA… one NPA will wipe-out big profits.

There are two ways to reduce NPAs:

· Proactive — give credit to creditworthy users, have mechanism to pull the money (mandates)

· Reactive: ‘have a stick’… block user from using other services, degrade credit score (if have access)

Will these things work? May or may not… and that is the case with anything we do… but idea is to reduce risk and better the recovery.

Credit is one of the most important financial tool that drives growth… In today’s FinTech landscape, looks like everyone is eager to give money… so far things are looking bright but too early to say how things will shape up in coming days…

like someone said… “credit is fun, until it stops being”