Episode 7 – Fintech – BNPL and the race to become a lender of last resort
Everyone is disbursing money, who will be able to get it back? And is it really new?
Everyone you talk to, including founders who are NOT doing BNPL, does talk about BNPL. Interestingly, BNPL by itself isn’t a new concept, with the earliest avatar of instalment plans appearing more than two centuries ago. Viewed with suspicion until 1920, the product gained mainstream acceptance post taking off through automobile financing. Post the 1950s, the advent of credit cards led to a decline in instalment purchases, particularly for smaller items. With the current excitement surrounding BNPL, the wheel appears to have come full circle.
What is different this time though is the advent of pay later or deferred payment models, enabling zero down payment with the customer having to repay the entire amount within 14-30 days. This contrasts with the EMI-based BNPL model (Purists will say EMI based loans are not really BNPL, but that’s where everyone wants to be, so we will take that) wherein purchase value (GMV) is converted into a loan at the payment gateway / POS with the customer repaying through EMIs, usually of <1-year tenure. The pay later product is positioned as a payment facility instead of a loan facility, thereby bringing in its wake potential challenges – not sharing data with credit bureaus, potential loan stacking and neutral impact on credit scores irrespective of prompt payment/delinquency to name a few.
BNPL disbursements in India is expected to reach USD91 bn in FY26, up from ~USD 15bn in FY21, a CAGR of 38%! This would primarily be driven by BNPL offerings from digital platforms, which is expected to grow at ~70% CAGR and reach USD45bn disbursements by FY26.
There are broadly three types of BNPL Players – Pure Play BNPL which offer small ticket (limited to Rs. 60K cumulatively in a year by RBI) and are in effect, pay later companies. Customer is provided one-click check-out by the BNPL with zero down payment customer has to repay entire amount to BNPL provider within 14-30 days. Here, usually, BNPL provider retains a portion of the GMV (1% - 2.25%) - this is the fee that the merchant pays to the BNPL entity. Customer is charged a token late payment fee in the event of late payment; customer is also a charged an activation fee (which is usually waived-off in the current scenario). The major issue with this model is that customer repayment incurs MDR charges which further dents the already wafer thin margins. Overall, with limited revenue / yield potential and cost incurred, margins are thin resulting in poor profitability of this business model. Some of the key companies in the sector are ePayLater ($Raised 2.46mn from the likes of ICICI Bank in Jan’21) , Simpl (Last raised $15.7mn in 2017), LazyPay (they are present across the spectrum), Cashcare (Acquired by earlysalary), Paytail (Just raised $250K in seed financing) amongst others.
The second type of BNPL players are the EMI based BNPL players- The purchase value (GMV) is converted into a credit line at the payment gateway / POS - customer repays through EMIs, usually of <1year tenure. BNPL provider earns interest income by converting the purchase into EMI; also earn processing fee and other fees (service, late payment etc.). Since this is a typical credit product, underwriting is done by a bank/NBFC (self or partnered) - payment banks / payment apps cannot underwrite. Interestingly, this model has been in existence since decades, Bajaj Finance being a prime example of this. Some of the Fintech firms doing this are POS financing firms such as Pine Labs, Zest Money. Others are Mobikwik, Lazypay, JusPay, CreditFair, HappyEMI among others.
The third, most interesting type of BNPL is actually a combination and basically the merchants themselves becoming the BNPL provider. They usually combine the above two models, initially doing Pay later to be paid back in 14-30 days with an option to convert into EMI later on. Flipkart, Amazon Pay are an example of this. Swiggy, Zomato and some other larger ecommerce firms are trying to get into this. Generally, there is evidence of etter customer conversion – the merchants who have partnered with BNPL providers witness increased ticket size of purchases and lesser number of abandoned “shopping carts”
Key challenges in the industry
Profitable scale using the pureplay BNPL model is going to be difficult. Eventually, all BNPL players will have to move to EMI based model, where competition is high as well as the TAM is not as large as it is usually believed to be. The moment a customer becomes meaningful with lower risk of defaults (Mobikwik’s Stage2/Stage3 defaults are at 13.4% and 12.7% compared to say, SBI Credit Card’s at 5.4%and 4.8%), those customers will become attractive to larger card based and financing players with capabilities to underwrite larger cheque.
Relatively higher probability of default combined with collection handicaps also indicate that while disbursements are easy, collections are not. Two big questions, which BNPL players need to answer, in absence of hard credit behavior data are – What is the ability to pay back and what is the willingness to pay back of customers. And this is proving harder than anticipated.
Conclusion
While the scale (number of customer accounts) may seem within easy reach for BNPL players, led by an almost endless assortment of use cases and ease of access, we believe pay later by itself is an unprofitable model, with players eventually having to pivot to a direct lending model to build profitability. This is easier said than done as the current proprietary underwriting frameworks of BNPL fintechs are more focused on willingness to repay with the ability to pay framework taking a backseat.
Consequently, small/restricted ticket sizes will continue to be on offer – high profile and high bureau score customers are also provided low credit limits. Some of these players will offer opportunities for Banks and existing NBFC to acquire them, combine their front end, reach and alternative scoring capabilities with their underwriting capabilities to offer hybrid products. There will be some large outcome here with a hybrid model and ability to underwrite combined with very large distribution presence (Say Pine Labs? or something similar in smaller stages)
The ability to auto debit without NACH will be a game changer here for sure and will open up multiple use cases which are preliminary for now.
Fintech Hirings
ePaylater is hiring for a QA engineer. Connect with Akshat Saxena for this.
Simpl is hiring for Strategic Partnership manager and a developer. Connect with the founder, Nitya Sharma for this.
Paytail is hiring for multiple positions including Product, Tech, Csutomer support. Connect with the founder, Amit here for this.
Latest happening in Fintech
Pine Labs' parent firm converts into public company ahead of IPO (moneycontrol.com)
M2P Invests $4 Mn In LivQuik To Serve Early-Stage Fintech Startups (inc42.com)
MAS Financial Services partners with CredAvenue for co-lending platform (indiainfoline.com)
Do reach out to abhishekk.kumar@iiml.org in case you want to discuss anything!