A Paradigm Shift in Consumer Lending

Picking up steam in the consumer lending space

During the COVID-19 crisis, buy-now-pay-later (BNPL) emerged as a hot segment within consumer lending. 

It facilitated payments for all types of online purchases, in turn helping merchants increase sales, and captured a large share of wallet. BNPL has become a preferred method of finance for millennials, gaining significant traction over the last couple of years. This can be attributed to millennials’ willingness to explore new products across categories driven by social media and influencer marketing coupled with their distrust of legacy financial institutions. Consequently, even nascent BNPL firms have built a huge base of active users, thus setting off a flywheel effect, to scale rapidly.

Having experienced the after-effects of the 2008 financial crisis, millennials are reluctant to embrace a debt-friendly lifestyle. Moreover, BNPL is more transparent, making it an attractive option for millennials who are generally wary of the hidden fee implications associated with credit cards which can result in a debt trap. The far-reaching adverse impact of the 2008 crisis has also bred a degree of scepticism toward large financial institutions, as this cohort has experienced the tough processes of default, collections, and bankruptcy in their formative years. 

In addition, many millennials struggle to access credit due to thin credit files or not-so-stellar credit histories. The emergence of BNPL firms—which is beneficial for unbanked and under-banked segments—must be viewed in this context.  Even customers with excellent credit scores and access to high value and premium credit cards are choosing to use BNPL given its advantages of financial prudence and other value-added services. BNPL firms are attractively positioned to capitalize on this opportunity for growth and profitability.

For years, banks ignored BNPL, thinking of it as yet another variation of instalment-based payments, a segment they are already present in through credit cards. In its simplest form, BNPL is not a new proposition, and usually involves offering customers the facility to break the payments for goods and services into multiple instalments. However, new BNPL players introduced a major innovation—a two-sided marketplace to enable merchants and customers to discover each other. While customers get more options to pay for their purchases, merchants are able to offer easy payment options even for small ticket items and gradually move customers toward higher-value purchases by tapping into up-sell opportunities.  

A typical BNPL journey (see Figure 1) starts with customers using the BNPL app to search for products, fill shopping carts, and then check out. As a result, their journeys cover the end-to-end lifecycle. This increases the engagement manifold as customers log in to their apps many more times to search for new products, deals, and so on. 

In addition, BNPL is also a key component of embedded finance, where banking products and services are integrated into end-user journeys. For instance, car manufacturers may offer BNPL facilities to buy a car enabling a seamless customer experience. Similarly, a home improvement contractor can link a quotation for a piece of work to a BNPL offer to allow payments in instalments or a home improvement marketplace may enable customers to find reputed contractors and pay for their services through BNPL.