Buy now, pay later - the rise of Afterpay and Zip Co

3 min read

In recent years, two bright stars of the Australian Securities Exchange (ASX) have been the buy now, pay later “fintechs,” - Afterpay Touch Group Limited (Afterpay) and Zip Co Limited (ZIP), previously known as ZipMoney.

Both of these buy now, pay later companies allow customers to buy goods or services without taking out a traditional loan or paying upfront fees or interest, creating an alternative to using a credit card. In particular, millennials are spearheading the buy now, pay later push, with two-thirds saying that Afterpay has helped them use their credit cards 70% less.1

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How buy now, pay later companies do business is of interest. Conducting their credit and identity assessments up front, the companies themselves assume the non-payment risk. They pay the retailer upfront and then recoup the purchase price from the customer, charging a spread.

Because of this, buy now, pay later has seen growth in uptake. According to the Australian Securities & Investments Commission (ASIC), between financial year 2015-16 and 2017-18, the number of consumers using buy now, pay later services increased from 400,000 to 2 million people.2

Let’s take a closer look at the two main stockmarket-listed players, Afterpay and ZIP.

Afterpay – an introduction

Afterpay Holdings Limited listed in May 2016, raising $25 million through shares, selling just over 15% of the equity.1 At listing, it had a market capitalisation of $165 million.

In June 2017, Afterpay Holdings Limited merged with its technology partner, digital payments software developer Touchcorp, which owned 26% of its stock. This is how “Afterpay Touch Group Limited” was born.

As of 14 May 2019, the stock was trading at $25.76, capitalising the company at just over $6 billion.

Afterpay – how does it work?

Afterpay’s business model is to sign merchants to its platform, which enables their retail customers to pay for purchases in four instalments, without interest. Afterpay pays the retailer in full upfront and assumes all non-payment risk, before recouping the purchase value from their customer.

The customer, on the other hand, pays Afterpay in instalments over a maximum of 56 days. It is a free service for customers who pay on time – but, costs if you miss a payment. Because of this, Afterpay makes about 17% of its revenue from customers in the form of late fees, with the rest coming from merchant fees.3

Afterpay’s proprietary Transaction Integrity Engine allows it to make real-time repayment capability assessments of their potential customers. The engine is algorithm-based, and uses a range of information relating to the particular transaction, the end-customer and his or her payment history and current amounts outstanding, the merchant and other factors that it can discern from the particular transaction and payment request.2

The analysis does not involve any external checking of credit reporting agencies, but it does use external ID tests: Afterpay – which holds an Australian Credit Licence – says it tests every single transaction in real-time, rejecting about 30% of them.4

Afterpay – by numbers  

In its half-yearly report in December 2018, Afterpay reported total revenue of $112.3 million, which was up by 85% compared to the previous year.3

The US business contributed $263.7 million gross merchandise volume in its first six months of operation; it took 28 months for Afterpay's Australian and New Zealand business to process a similar amount of underlying sales5. The US is a vastly larger market than Australia, and success there is a huge factor in Afterpay’s ambitious target of reaching more than $20 billion in underlying sales by the end of 2022.6

Customers and merchants also grew in the first half of the financial year. By the time of the interim result, Afterpay had about 3.5 million active customers, with more than 900,000 of those in the US. Active merchants more than doubled in the December 2018 half-year to 23,200 and had passed 25,000 by the time the half-year report was released in February 2019.7

In terms of profitability, gross profit rose 81% in the first half of the financial year to $86.4 million, but the added costs of launching in the US and preparing to launch in the UK saw the net loss worsen from $700,000 at December 2017 to $22.2 million.4

According to the collation of analysts’ forecasts compiled by Thomson Reuters, Afterpay is expected to lose 3.1 cents a share in FY19, before surging into profitability in FY20, when it is projected to earn 11.9 cents a share.

At the current share price of $25.59, that prices Afterpay on 215 times expected FY20 earnings.  Some investors may not be prepared to pay that kind of multiple, however, an attraction that has seen Afterpay more than double in price in 2019 alone is Afterpay’s excellent start to operations in the US, and the prospect that it can achieve similar success at launch in the UK in 2019.5

Zip Co – an introduction

Formerly known as “ZipMoney”, Zip Co listed on the ASX in August 2015 through a backdoor listing, when the shell of Rubianna Resources Limited acquired ZipMoney Payments Pty. Ltd. This raised $5 million in a public offer of 17.7% of the company’s equity, valuing ZipMoney at $28.2 million.8 Now trading at $3.06, Zip Co is valued on the ASX at almost $1.1 billion.6

Zip Co – how does it work?

Zip Co is a different business to Afterpay, although it also offers a buy now, pay later service. A big difference is that Zip Co offers consumers a line of credit through its cloud-based digital “wallets,” of which there are two: Zip Pay, for purchases up to $1,000, and ZipMoney, for purchases between $1000 and $30,000.7

Zip Pay is interest-free; it charges a flat fee of $6 a month on whatever is owed, and an additional $5 if the minimum monthly payment of $40 is not made on time. Customers can choose a weekly, fortnightly, or monthly repayment schedule. It also charges a 4% upfront fee to the retailer. For the much higher purchase limit, ZipMoney charges interest.9

Zip Co also uses an algorithm, part of its proprietary Origination and Decisioning Engine, to assess customers for credit (and credit limits) in real-time. It also conducts formal ID and credit checks, supported by third-party service providers. Zip Co holds an Australian Credit Licence.8

 ZipCo – by numbers 

For the six months ending 31 December 2018, Zip Co increased customer numbers from 738,000 to over 1 million, while the number of merchants accepting Zip Co products increased from 10,500 to over 12,600.10

Revenue rose by 114% in the December 2018 half-year to 34.2 million, while the net loss improved to $6.7 million. As at 31 December 2018, the Zip Co Limited receivables portfolio was $489 million having grown 54%.

In the March 2019 quarter, Zip Co increased customer numbers to 1.2 million, merchant numbers to 14,363, transactions to 1.24 million and total receivables to $565.3 million.11

While, Zip Co has reported positive cash flow, stockbroking analysts who follow Zip Co do not expect the company to make a profit in the current financial year (FY19) or in FY20.9

As with any investment, potential investors should consider their personal objectives, financial situation and needs, seek independent advice and do their homework before deciding to invest.

[1]http://www.openbriefing.com/AsxDownload.aspx?pdfUrl=Report%2FComNews%2F20160504%2F01737764.pdf
[2] https://www.asx.com.au/asxpdf/20160503/pdf/436zmt8bjdwvkf.pdf
[3] https://www.afterpaytouch.com/images/Appendix-4D-Half-Yearly-Report.pdf
[4] https://www.afterpaytouch.com/images/H1-FY19-Results-Presentation.pdf
[5] Bloomberg/BTIS
[6] https://www.afr.com/business/banking-and-finance/zip-goes-from-300-million-to-1-billion-valuation-in-five-months-20190501-p51j1e
[7] https://www.finder.com.au/interest-free-finance
[8] http://zipmoneylimited.com.au/company.html
[9] Bloomberg/BTIS 

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This article was prepared by BT, a part of Westpac Banking Corporation ABN 33 007 457 141, AFSL and Australian Credit Licence 233714. This information is current as at 27 May 2019.  This article provides an overview or summary only and it should not be considered a comprehensive statement on any matter or relied upon as such. The information provided is factual and does not constitute financial product advice.  Before acting on it, you should seek independent advice about its appropriateness to your objectives, financial situation and needs. This information may contain material provided by third parties derived from sources believed to be accurate at its issue date. While such material is published with necessary permission, no company in the Westpac Group accepts any responsibility for the accuracy or completeness of, or endorses any such material. Except where contrary to law, we intend by this notice to exclude liability for this material.