Buy Now, Pay Later: The Generational Goldmine That’s Up for Grabs
Who wins and who loses in the battle to reach a key demographic that’s rewriting all the rules?
The Buy Now, Pay Later (BNPL) phenomenon — which provides simple access to credit without the need for a hard credit check — shows no signs of letting up. Unlike layaway programs of the past, BNPL users have immediate access to their goods through interest-free installment payments.
In 2021, the top five US BNPL lenders originated 180 million BNPL loans, totaling $24.2 billion. This was up from $8 billion the year before. Both loan and dollar originations have grown at over 200% per year since 2019.
While apparel and beauty continues to be the dominant category, at 59% of total merchandise volume, the industry mix is diversifying as BNPL becomes nearly ubiquitous in ecommerce. There has also been significant growth in the use of BNPL for “everyday” purchases like gas, groceries, and utilities, up 434% in 2021 to $229M.
Millennials and Gen Z account for a significant portion of this explosive growth and have traditionally been the focus of BNPL companies. Together, they account for around 60% of all BNPL applications, according to Equifax’s 2022 report, which analyzed data from over one million BNPL applications. In addition, their BNPL presence is over-indexed relative to the general US population.
However, it is important not to lose sight of other generations, particularly Gen X, which accounted for almost a third of BNPL applications and are an important demographic for future, sustainable growth.
Challenges and opportunities
As younger generations gravitate toward this payment option and away from more conventional banking products like checks and credit cards, the question arises: What will it take to capture their business, now and in the future?
The answer isn’t clear-cut, but one thing is certain: BNPL has captured a previously unmet need in the market and the upside for innovative payment products and services is substantial. They offer financial services companies a gateway to customers, at the beginning of their financial journey, with the potential to upsell into “stickier” products for the long-term.
Additionally, BNPL has offered responsible borrowers a credit building opportunity, particularly younger borrowers new to the credit market or previously marginalized consumers. With the advent of enhanced credit qualification (e.g., the ability for creditors to use unconventional data in underwriting decisions, such as utility bills, social media, email usage, etc.), traditional credit issuers need to leverage new datasets to expand successfully into new demographics and untapped customer segments.
Companies that want to be part of this payment transformation need to understand demographic differentiation, unlock the power of data, and anticipate future use cases for BNPL, as well as other frictionless payment options.
Risks and consequences
The BNPL movement in the US can claim its roots from installment options that have been widely available in Europe and other parts of the world. However, unlike Europe, where payment rates are nearly 100%, US consumers favor revolving credit products, which allow users to roll over balances. With the proliferation of payment options, consumers are increasingly challenged to stay on top of their debts, especially if they are “loan stacking” or have BNPL plans with multiple providers.
Enticed by what seems like an innocuous string of low payments, BNPL users can easily overspend while losing track of when their payments are due. During the past two years, in fact, more than 42% of users made late payments, primarily because they were unaware of when their bills were due. Along with these late payments, some BNPL users were surprised to also see high finance charges and late fees that they may not have realized were part of the deal. BNPL is only free when you stick to the rules.
According to the Consumer Financial Protection Bureau (CFPB), late fees accounted for 0.28% of gross merchandise volume, or about $67.2 million in fee revenue. Moreover, delinquency rates are approaching those experienced on traditional credit cards at 2.4% (loans charged off/total loans), with those in the younger demographics disproportionately represented (5.7% for those 18–24 and 4.8% in the 25–33 age range). With the uncertain economic environment, along with heightened interest rates, it’s quite likely that the percentage of late fees will increase in every age group for the foreseeable future.
Meanwhile, explosive growth — coupled with consumer debit accumulation and overextension — tends to attract regulation, and the CFPB has already issued plans to regulate the BNPL market, much like it does with credit card programs today. Taken together, these factors are casting doubt on BNPL’s financial resilience, forcing a rethink in revenue and business models, but also creating opportunity for players who can afford to take the long view.
A moving target and evolving model
Today, the majority of BNPL volume (~80%) occurs through discretionary spend categories such as apparel, games and hobbies, electronics, fitness and sporting equipment, jewelry, general goods, and beauty retailers. With economic headwinds, the product is ripe for reinvention, as a diverse consumer base demands payment options for a broader range of products, particularly in non-discretionary spend categories such as home improvement, auto repair, construction, and medical expenses. There is even more demand for these products when considering the often-overlooked unbanked and underbanked segments of the population, many of whom are credit-worthy customers.
Newer entrants to the market have also started to address many of today’s BNPL shortcomings. Zilch, a recent entrant into the space, is attempting to mitigate current risk factors by foregoing late fees and penalties while rewarding customers with cash-back rewards. Other providers are following suit, touting transparency through fair, flat, and fixed rates with no hidden fees, as well as tapping into loyalty programs to increase customer retention.
This new model, often dubbed BNPL 2.0, could help sustain BNPL growth rates and mitigate consumer, merchant, and provider risks because of its greater appeal to a larger demographic base, acceptance at a wider array of spend categories, regulator-favored pricing transparency, and potential for consumer rewards and financial wellness offerings. According to Insider Intelligence, while BNPL user growth rates are expected to dampen in 2022 and beyond, the number of users is set to rise to 104.6 million by 2026, accounting for nearly 40% of internet users.
Owning the customer journey across demographics and payment types
As with any product or service, winners in the BNPL arena will need an inside track on the future evolution of the market. In the ever-changing world of payments, a clearly defined strategy, integrated customer experience, and back-end technology integration are key success factors, and that’s where Slalom’s expertise can make a significant difference.
During the past 20 years, we have advised more than 200 banks and 75% of Fortune 500 financial services firms. In 2022, we tackled more than 700 financial services projects, helping numerous banks and financial institutions improve customer journeys, leverage data, and modernize technology. Because we have deep payments expertise, we also have consulted on bringing new products and services to market that anticipate changing trends, since, as with BNPL, something new will undoubtedly be on the horizon.
As the BNPL market evolves and the Gen Z and Millennial train pulls out of the station, it’s an opportunity for all lenders and merchants to rethink their business models so they can make inroads into this demographic while also preparing for the next big thing.
There are no easy solutions, but with the right guidance, there are always intelligent strategies.
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