Early Winners Don’t Always Make It To The Finish Line: Are Fintech Investors Buying Now and Paying Later?

Nothing has exemplified the spirit of the roaring 20s more than the burst in exponential growth we have witnessed in fintech valuations and returns in the past year. For long standing optimists that have believed in the disruptive power of fintech, this is confirmation that we are at the dawn of reaping the returns of the digital age of financial inclusion. If you consider how far the financial industry has come, from the early 90’s where financial incumbents like banks packaged financial products to meet the needs of a limited exclusionary target market; it is extraordinary to live in the age of increased financial access and democratization, where inclusive financial services like BNPL, virtual wealth management, mobile payment solutions, virtual debit/credit cards, have expanded their reach by accommodating the under-qualified and unbanked segments of society. And this has paid off heavily for fintech.

In 2020 we saw impressive year on year revenue growth of 76.62% for Square, which further translated into share price appreciation of 224%. Additionally, the breakout, listed fintech play of the year was Australian based BNPL provider Afterpay, that saw its share price soar by 394%, with YoY revenue growth of 118.5%. Later in the year we also saw further introductions to the public markets that included SoFi and PaySafe, both of which intend on merging through SPACS and have respectively raised $3.2Bn and $2.03Bn in market capitalization. 2021 kicked off with Affirm’s incredible IPO, which has translated into 98% aftermarket gains. Visa and Plaid’s prospective merger falling out as a result of antitrust concerns was also major news that fascinates me, because in substance, it may have been driven by Plaid’s undervaluation in the deal. This progress is testament of the extraordinary momentum fintech is building from and the appeal this sector of tech has for investors. And despite the room for these stocks to run in the short-medium term, it is always important to be cognizant of the competitive landscape these companies operate in. Early winners won’t always make it to the finish line, and as much as these are exciting developments that are alluring to investors, it is important to differentiate the short/mid-term gains in fintech from those that could create long-term shareholder value, and which growth stocks will break out to be the fintech unicorns that could match the valuations, growth and returns of big tech giants like Tesla, Amazon and Google. A subsegment of fintech that requires this intense scrutiny regarding how saturated the market is, and how much room is left for these stocks to run, is BNPL.

The Rise of the BNPL movement and the Story of Afterpay

Buying now and paying later is no new concept, access to credit facilities at retailers have been in existence since the dawn of time. And simply put, that is what BNPL is, it is the adaption of a traditional credit facility for the benefit of online merchants and consumers through flexible point-of-sale financing. When you look beneath the surface of this business model, the true ingenuity of BNPL operators lies in simplifying the service to a short application for credit that is payable through just 4 interest-free instalments. This has attracted a large target market that would not appeal to or qualify for traditional credit facilities, and through this they have discovered the sweet spot of product-market-fit. No company has exemplified the viral potential scale for BNPL operators more than Australian based fintech company, Afterpay. For a grassroots startup that was an early mover in BNPL and leveraged partnership multiplier effects to grow and expand its business offshore and into global markets, Afterpay has grown phenomenally since its inception in 2015.  With a focus on Millennials and Gen Z’s who make up 75% of the fintech company's consumer base, Afterpay has set itself as a leading financial provider for this demographic. Its aggressive expansion plans have also contributed incredibly to the business’s growth; in the past year Afterpay has expanded into North America and the United Kingdom through partnerships with notable brands like Kylie Cosmetics, Levi, Steve Madden and Urban Outfitters. Afterpay has onboarded over 64 000 merchants and adds an average of 20 300 customers a day, as per their 2020 Q4 financial reporting. But despite the goldrush into this subsegment of the sector, it is crucial to consider and question whether the momentum of BNPL stocks can be sustained into the long-term and how long they can hold onto their competitive advantage? With low barriers to entry, a singular revenue stream can easily be replicated by incumbents and merchants looking to vertically integrate into the market. Fintech's entire appeal has been in its ability to disrupt the incumbent banking system, but when the disrupters risk disruption themselves so early on, it becomes concerning what the lifespan and long term returns of BNPLs could look like.

When I envision the future of fintech, it is a folding game with a winner takes most outcome. And the dominant players that will threaten incumbents and consolidate the space, are not going to be traditional fintech startups with singular revenue streams, but rather non-financial companies that are pioneering in embedded finance. In Ian Kar's Fintech Today Substack, he describes embedded finance as "non-financial services companies creating financial services products for their users, embedding them in existing products." Experts at A16z have estimated that by integrating embedded finance into existing offerings, software and e-commerce companies have the potential to tap into 5X growth. By leveraging fintech to monetize existing products internally, this creates a new and attractive value preposition for merchants and software providers alike. The boldest and most successful examples of this are Tesla and Shopify. Tesla's car sales program offers in-house car insurance instead of referrals to third party providers, and Shopify has enabled merchants to accept card payments directly through Shopify's platforms without the use of third party payment solutions, and there are a plethora of other companies using embedded finance like Google, Amazon and Apple. This is also not just a trend exclusive to big tech, Stripe and Meituan Dianping are relatively smaller players that are competitively positioning themselves for increased market share in the fintech space using embedded finance. The threat this presents for many BNPL operators is the ability for players that vertically integrate into the space, to foreclose the current BNPL providers they have partnerships with. In 2020 Meituan, the chinese e-commerce service superapp had its revenues extensively hit by Covid-19. Because of the lockdowns, social distancing and general fears the public had over the pandemic its core service revenues fell by 24%. This forced Meituan to expand into its non-core revenues and explore grocery distribution and embedded in-house financial services like microloans, virtual credit cards and e-wallet platforms. This paid off tremendously for the Asian tech company, generating CAGR of 180.75% and 199.5% in share price appreciation in 2020. But these returns are equally rooted in Meituan's ability to aggressively compete in Fintech. Last year Meituan blocked payments via Alipay in efforts to foreclose its top competitor on the platform. Additionally the super-app has filed for trademarks for "Meituan first enjoy and then pay later" and "Meituan first enjoy" on December 30 2020, and these are indicators of Meituan's intention to expand into BNPL. Developments like this are crucial to monitor, as it signals the aggressive measures embedded finance providers will take against traditional fintech.

So does this mean all BNPL operators are a lost cause? No. BNPL operators that consolidate their businesses with an embedded finance provider could set themselves for exponential growth and insulation from fintech wars. The primary one that comes to mind is Affirm. Affirm is a US-based fintech services company that specializes in BNPL. The fintech company's greatest appeal lies in its relationship with Shopify. Not only does Shopify hold 20 million shares in Affirm, but Shopify has exclusively partnered with Affirm to provide installment payments across all Shopify US-based storefronts. This exclusivity deal gives affirm the ability to exponentially increase its revenues, as Shopify has over a million merchants based in the US alone, this gives Affirm a competitive edge over other BNPL providers trying to break into the US market, as Shopify carries 30% of the total market share for US e-commerce platforms. This further provides Affirm with the necessary insulation against any vertical integration Shopify would pursue. I would still like to see the flexible payment solution provider branch into multiple innovative products and to consolidate the fintech space through acquisitions of its competitors, but it is the strongest case of a BNPL provider that could translate into long-term gains for investors.

By Milisa N Mabinza







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