Investing in ASX buy now, pay later (BNPL) shares

What are buy now, pay later (BNPL) shares?

BNPL refers to a group of financial services companies that sell customers short-term financing options for retail transactions. While BNPL is a relatively new type of personal lending, it is similar to an old-fashioned lay-by agreement in many ways.

Both arrangements allow customers to pay off purchases in manageable instalments over time. However, unlike a lay-by agreement where customers cannot take the purchased product home until they have paid it off, BNPL gives them immediate access to the purchased product or service.

And although that might sound suspiciously like a regular old personal loan, there is a key difference: BNPL companies typically don't charge any interest. Instead, they make their money by charging a small fee to the retailer for their services. 

The incentive for the retailer is that because BNPL applications are generally approved within seconds, they can give their customers instant access to more products, boosting overall sales volumes.

Why invest in them?

In an ideal world, BNPL companies enable consumers making large purchases to budget effectively. It's a valuable service because it allows people to purchase items they can't afford to pay off in one hit without relying on high-interest credit cards or personal loans.

This has made BNPL providers very popular with consumers. Brands like Afterpay, Zip, and Humm have quickly become household names, particularly with younger demographics. And the fact that they don't charge interest on purchases means that – when used responsibly – they can help people avoid falling into cycles of debt.

Investing in BNPL companies means you can also profit from their popularity, which is an appealing reason to buy their shares. 

However, it would be remiss of us not to also note the risks involved in BNPL shares. After rising to astronomical highs over the past few years – particularly during COVID-19 lockdowns when more consumers than ever were shopping online – most BNPL shares are now trading at historic lows. 

Depending on your view of the BNPL industry, now could be a great time to invest to capitalise on a potential price resurgence. Or it could mean investors should avoid these shares entirely!

Top BNPL stocks on the ASX

Depending on the company, BNPL shares may be classed under the financials or information technology (IT) sectors on the ASX. For example, Block Inc CDI (ASX: SQ2), the American payments juggernaut that acquired Afterpay in 2022, is grouped under IT because it offers diverse technology products.

Zip Co Ltd (ASX: ZIP), on the other hand, is included in the financials sector along with Humm Group Ltd (ASX: HUM), given their principal business is providing short-term financing. 

However, sometimes the groupings can seem a little arbitrary. Fellow BNPL companies Splitit Ltd (ASX: SPT) and Sezzle Inc (ASX: SZL) are also included in the IT sector, despite appearing to have similar product offerings to Zip and Humm.
Here, we profile three BNPL companies ranked by market capitalisation from highest to lowest.

Block

Block – formerly named Square, hence the ASX ticker SQ2 – is a United States global technology and financial services company. It is mainly known for developing technology targeted at small to mid-sized businesses that allowed them to use tablet and mobile devices as point-of-sale systems. Then, in 2021, Block expanded into the BNPL space with the purchase of leading Australian BNPL company, Afterpay, in an all-scrip deal valuing Afterpay at a whopping $39 billion.

Afterpay is the company that kicked off the BNPL megatrend. It offered customers the ability to purchase the products they wanted – but couldn't currently afford – with only a small deposit, under the condition that they would pay off the remaining balance in three further payments over six weeks.

What's more, borrowers didn't have to pay any interest or fees (so long as they made their regular repayments), making it a much cheaper option than a credit card or a payday lender. It allowed consumers to break up the total price of their purchases into more manageable chunks.

It became a global success, amassing millions of repeat customers across Australia, the US, and the United Kingdom.

Zip

Zip is Afterpay's next biggest rival – at least in Australia. According to its December 2022 results presentation, Zip has more than 7 million active customers and is offered by more than 97,000 merchants in 11 different markets. It has partnered with many well-known brands, including Amazon.com, Inc. (NASDAQ: AMZN), JB Hi-Fi Limited (ASX: JBH), and Uber Technologies Inc (NYSE: UBER).

Zip is similar to Afterpay, although it offers two different products. Zip Pay gives customers access to up to $1,000 for online or in-store purchases – you can even use the cash to pay many of your bills on BPAY. It also gives customers more flexibility to determine their repayment schedule. Customers can make payments as small as $10 weekly, fortnightly, or monthly, as long as they cover a minimum monthly repayment amount.

Zip offers Zip Money for larger purchases, allowing customers to borrow $1,000 to $5,000 – and with some merchants, as much as $50,000. Customers have a guaranteed interest-free period of three months, although it is up to 36 months with some retailers, and additional establishment and account administration fees exist.

Humm

Humm's BNPL offering is similar to Zip, with two distinct products depending on the purchase size. Humm's 'little things' allows customers to borrow up to $2,000 for purchases (often without paying fees). In contrast, 'big things' gives customers access to up to $30,000 in credit, with some additional establishment and administration fees attached.

Humm's 'big things' product offering is its point of difference from other BNPL companies. It allows customers to use BNPL to pay for much larger purchases – from home appliances, holidays, jewellery, home solar panels, and even health services, including IVF treatments. 

The company intended to sell its BNPL assets to Latitude Group Holdings Ltd (ASX: LFS) in 2022, but the deal collapsed when market valuations for BNPL companies started to tank last year.

What recent headwinds have impacted BNPL service providers in Australia?

The share prices of BNPL companies skyrocketed during the pandemic. Despite all the negative impacts that social restrictions and lockdowns had on brick-and-mortar retailers, demand for BNPL products ballooned due to their easy integration with e-commerce platforms.

However, more recently, it has been a completely different story. The share price of almost every BNPL company is languishing at multi-year lows in 2023, with global recession fears, rising inflation, and higher interest rates scaring investors away from high-growth fintech and e-commerce shares. 

These macro factors hurt the retail industry and dampen consumer confidence, which is bad news for BNPL companies that rely on people spending money freely in the economy.

Tougher regulations

The Albanese Government also recently changed how the BNPL sector is regulated in Australia, which could greatly impact BNPL companies. 

Previously, BNPL companies had been able to skirt around the edges of the Credit Act because they argued that they technically didn't provide 'credit' to their customers (because they don't charge interest). This meant they could avoid having to perform background checks and could quickly sign up new customers and approve transactions, giving them a clear competitive advantage over traditional lenders. 

However, in May 2023, the Federal Government announced it would toughen regulations for the BNPL sector. It said BNPL companies would have to follow many of the responsible lending obligations other lenders have to follow, although scaled to the risk of the product. So, BNPL products covering smaller retail purchases wouldn't be as tightly regulated as products covering larger purchases like electronics or expensive holidays.

Having to perform background checks could increase operating costs for some BNPL providers, dealing a further blow to an already embattled sector. 

However, for their part, the larger BNPL companies downplayed the impact of the changes, with Zip CEO Peter Gray stating at the time that it would be "business as usual" for the company, considering that they already complied with existing credit laws for many of their products¹.

What are the benefits of investing in BNPL shares?

Very popular: BNPL companies have proven to be a hit with consumers and merchants alike. Just about every retailer you shop with now offers a BNPL option. For consumers, it provides short-term financing without interest charges. For merchants, it increases sales by allowing consumers the ability to buy products they can't currently afford.

High growth: Although things have turned sour for the BNPL sector recently, it wasn't long ago that BNPL share prices were surging. There's nothing to say that won't happen again once the economy re-enters a growth phase. This could make those savvy investors who picked up BNPL shares when they were cheap rich indeed!

And the cons?

Regulatory risk: The risk of tighter regulations has been with BNPL ever since the industry's inception. With the Federal government recently changing many of the rules BNPL companies must follow, it remains to be seen what lasting impacts this might have on the industry (or whether further changes are still yet to come).  

Highly cyclical: BNPL shares have proven themselves to be only fair-weather friends to investors. When the economy is booming and household spending is high, BNPL stocks have flourished. But once things get rocky and consumer confidence drops, their share prices plummet. This means they aren't good shares to hold in a crisis.

Threats from large banks: Large banks or other financial services companies entering the BNPL market can quickly erode the market share of existing BNPL companies. Consumers may prefer to simply use a product their current banking provider offers.

Are ASX BNPL stocks a good investment?

Recent share price drops have revealed significant weaknesses in the BNPL sector. Rising interest rates, inflation concerns, and disruptions to supply chains have all dampened consumer confidence, which makes the short-term outlook for the industry hard to predict (but not very rosy). And that's not to mention the impacts tighter government regulation might have on the broader industry!

However, BNPL is popular with customers, who took the service up in record numbers during the pandemic. And despite the near-term uncertainty, there may still be growth opportunities in the BNPL sector over the longer term. 

But the sector is already crowded with many companies offering similar products, so not all newcomers will survive.

This might make investing in BNPL shares a bit risky. So, before investing, do your homework and ensure BNPL shares fit within your risk appetite.