What Square’s purchase of Afterpay means for the future of credit and payments

As originally published on stuff.co.nz on 3 Aug 2021

Square has agreed to buy Australian fintech provider Afterpay in a stock-only deal that values the buy now pay later (BNPL) company at a cool NZ$41 billion.

Not bad for a company that was founded barely seven years ago by young Aussies Nick Molnar and Anthony Eison, both of whom have agreed to stay on to lead Afterpay as a division of Square once the transaction closes.

For Afterpay, the deal makes perfect sense. Although its growth has been nothing short of phenomenal since its inception, it is going to need much deeper pockets to take full advantage of its explosive recent growth in markets such as the United States.

It’s also facing increasing competition from a plethora of alternative BNPL firms such as Klarna, which is also rapidly growing in the US and which raised close to a billion dollars in June, valuing the company at around NZ$66b.

Afterpay’s success is based in a large part on how well they’ve anticipated changing attitudes towards consumer credit and debt, particularly within their core millennial market.

The service gives users the instant gratification of taking products home with them at time of purchase, but lets them spread the purchase cost over four interest-free payments.

Afterpay doesn’t conduct credit checks. Although they charge late fees, they cleverly don’t report late payments to credit agencies, meaning that using Afterpay will very rarely affect consumer credit scores.

This appeals greatly to millennials, who’s attitudes to credit and debt have been shaped in no small part by the Global Financial Crisis and the Covid-19 pandemic.

Younger consumers were hit particularly hard by the pandemic as lockdowns affected service industries worldwide. Although economies and job markets are springing back, these experiences have created a deep reticence toward expensive consumer debt within younger generations, although it’s seemingly done little to temper consumer demand within this demographic.

But the acquisition by Square says a lot more about the future of consumer credit and payments than it does about Afterpay’s past success.

Square itself was started by Twitter Founder Jack Dorsey in 2009 to try and disrupt the payments industry. It too has found its business model (which revolves around providing consumers with more convenient ways of using credit and debit cards) increasingly disrupted by BNPL, which circumvents credit card providers altogether.

After the acquisition, the merged Square/Afterpay will have a market capitalisation of over NZ$200b. Not quite the NZ$750b-plus valuation of market heavyweight Visa, but bear in mind that Visa was 50 years old before either Square or Afterpay even existed.

Although BNPL firms have copped significant criticism for making customers vulnerable to debt, this has done little to stifle growth. In the US, BPNL is expected to grow by about 42 per cent this year, a rate that’s expected to only increase year-on-year.

What makes BNPL really interesting is that it hasn’t just arrived at the perfect time to take advantage of changing attitudes to consumer debt. It’s also arrived just in time to benefit from the end of plastic credit and debit cards, which some, including your intrepid reporter, believe is just around the corner.

The world currently produces around six billion payment cards every year, according to Mastercard. The production, and eventual disposal, of this mountain of cards is an environmental nightmare.

Plastic cards are also inconvenient. They were originally developed in the 1950s for use in ‘click-clack’ credit card machines and, later, ATM’s.

They’re designed for in-person purchases and, although we can buy stuff with them online, doing so is expensive and generally quite risky for retailers, who face the prospect of clawbacks for fraudulent payments made with lost or stolen cards.

We’ve already seen a move away from cash, which has become an inconvenience to both consumers and retailers (a growing number of whom don’t accept cash at all anymore).

We’re now seeing the gradual, but accelerating move away from plastic as we become increasingly used to paying online and through services such as Uber, which allow us to pay for products or services without ever having to reach for a card.

Headwinds are forming for BNPL companies. Increasing competition means that the sector risks becoming saturated and there are signs that the regulatory environment could become increasingly difficult, particularly as the risk to consumers increases as a result of the increased availability of BNPL services.

The eye-watering valuations placed on such young BNPL players indicates, however, how much growth and innovation is yet to occur in the sector.