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Afterpay – challenging credit providers


Alexander Vounisios

By

August 17th, 2020


Afterpay is one company that seems to be thriving in the current landscape. Alexander Vounisios takes a closer look at their business model and the reasons for the organisation’s recent success.


The Australian financial technology company, Afterpay, has gained considerable traction in the investment world with its stock value fluctuating over the recent months. The “buy now, pay later” company appears as a credit provider but it isn’t subject to the same regulations as traditional credit providers. Afterpay’s revenue is primarily generated through merchant fees, rather than late-fees like other traditional credit providers. It has compelled the banking sector to rethink its traditional credit strategies. Afterpay is the modern-day payday lending!

In the Covid-stricken world, technology has been at the forefront of human activity. Unequivocally with human interaction now staged through a screen, it has accelerated online shopping and decreased cash usage. Afterpay has successfully integrated into the retail landscape and is evolving the digital commerce experience.

The Product

Afterpay, was founded in 2014 with headquarters currently located in Melbourne. Its business structure operates as a reverse lay-by as the company purchases the item from the retailer with the consumer repaying it in equal fortnightly instalments. This means Afterpay assumes all risk associated in purchasing the item. It offers customer flexibility in attaining their product instantly, without any interest payments. Hence why it is not captured in the National Consumer Credit Protection Act 2009 and not considered a credit lender.

Its customer make-up mainly consists of millennials. It is often perceived that the buy now, pay later sector take advantage of vulnerable customers who aren’t financially savvy. Interestingly, Afterpay does not complete a customer credit check prior to signing up. Afterpay do not believe this is a benefit to the customer and would hurt their millennial customer base when accessing bank credit in the future. Perhaps this is another attractive offer for customers as it satisfies their desire for a stress-free shopping experience instantly. The no interest charge also draws attention to the product.

A drawback of Afterpay is that it divides repayments into four fortnightly payments which encourages impulse buying as consumers are drawn in by the inexpensive quarter payments.  In addition, the due date of the payments is not selected by the consumer meaning they potentially risk a bank overdraft.

A Senate inquiry in 2018 provided the necessary regulatory framework required to be adopted in protecting vulnerable consumers in the buy now, pay later space. Afterpay does not desire to come under the National Credit Act however, welcomes ASIC intervention and guidance in consumer protection. Greater regulation will enable consumer access to dispute mechanisms. The Australian parliament has recently authorised regulatory surveillance from ASIC in consumer protection and credit products.

The user-interface is exceptional in allowing the customer to complete their purchase. This has strengthened customer attraction, with the US alone having an active customer base of 2.1 million. Afterpay CEO Anthony Eisen stated merchants have not been required to raise prices with purchases made through this route. Merchants attain benefits such as a stable cash flow with immediate upfront payments and removing fraud risk using the Afterpay payment method.

Afterpay is an extension of the customer online shopping experience. The website and phone application are an extensive catalogue of all retailers who have paid for their service. Afterpay provides a platform to attract customers in a centralised manner by connecting them to retailers. A risk assumption is that Afterpay relies on maintaining contracts with merchants into the future. There is no certainty that these contracts will be continued.

Covid-19 Observations

The current economic climate provides fertile ground for Afterpay’s business structure to acquire more customers. Afterpay stated observations in consumer spending habits due to COVID-19 in their investor presentation. This includes consumers’ habits transitioning to online spending, more focused on budgeting and have developed a greater disinclination to traditional credit products. COVID-19 has accelerated the growth and utilisation of Afterpay.

Financial Analytics

Strong performance across the business delivered underlying sales of $11.1b in FY20. Active customers of 9.9m for FY20, 116% above FY19. Active merchants reached 55.4k in FY20, 72% above FY19. Net Transaction Margin (NTM) for FY20 is expected to be approximately 2%. These figures indicate strong growth and expansion of the company.

Afterpay’s expected performance in the immediate term resembles that of a double-edged sword. From one perspective, Afterpay is well positioned to take advantage of increasing online shopping activity but on the other hand Afterpay runs the risk of consumers not being able to meet their short-term debt repayments due to the economic effects of COVID-19.

Customers are more likely not to meet their payments obligations due to the current economic trends (rising unemployment, less cash usage), increasing the risk of bad-debt. In-turn this can affect the company’s operations and profitability.

Graph attained from Afterpay’s 2020 Investor Presentation.

Afterpay generates their revenue via 2 avenues: late fees (20% of income) and merchant fees (80%). Late fees are stated in their Terms of Service:

Merchant fees: $0.30 fee per transaction with a commission rate applied with each transaction ranging from 4-6%.

Afterpay typically charges a commission on each transaction of 4% which can be considered costly for a business with a high turnover and low margins. There is no risk associated in running the customer further into debt like other credit providers. There is a limit to the amount of late fees that can charged.

Final Remarks

Afterpay’s interest-free instalment model is currently in 40 countries around the world. Listed on the ASX, Afterpay’s relationship with the banking sector is turbulent of nature stating to the RBA they are not a “payment method.” Afterpay states that it is not a line of credit and proves to be sustainable in the short-term. Whether this continues into the long-term is subject to great debate with the financial sector closely observing its actions. Afterpay has to continue to comply with local jurisdictions in which they operate in. Industry standards are constantly evolving meaning that Afterpay must continuously adapt in order to continue future operations.

The views expressed within this article are those of the author and do not represent the views of the ESSA Committee or the Society's sponsors. Use of any content from this article should clearly attribute the work to the author and not to ESSA or its sponsors.

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