I am passionate about the Buy Now, Pay Later (BNPL) space. I have written extensively about this type of payment and credit offering and keep a list of BNPL companies and their use-cases here.
On August 27th 2021, Amazon publicly announced a partnership with leading BNPL provider Affirm. The news caused Affirm’s stock price to increase nearly 40% in aftermarket trading, adding roughly $7.5B to Affirm’s market capitalization.
While some news sources covered the mechanics of the deal, few that I have read capture the strategic nature of the partnership and explain how each party benefits from this commercial agreement. It is my hope that I can provide this strategic context.
Executive Summary: Amazon and Affirm’s Strategic Payments Partnership
- Affirm’s Buy Now, Pay Later checkout option will be available to certain Amazon customers in the U.S. starting August 27th 2021 with a broader rollout in the coming months.
- The partnership will let Amazon customers split purchases of $50 or more into smaller, monthly installments. BNPL is a credit option offered at the point of sale or online checkout, allowing consumers to buy a product straight away and pay for it later through installments.
- The partnership is the latest sign of the booming installment lending space as younger consumers move towards these alternative lines of credit.
Understanding Risk Modeling and Underwriting
As extrapolated from Affirm’s 10-K (a 10-k is a comprehensive report filed annually by a publicly-traded company about its financial performance and is required by the U.S. SEC):
- More users of Affirm means more data for the company to analyze.
- More data means better underwriting and risk profiling.
- Better risk profiling equates to a higher percentage of people who pay back loans.
- Better risk profiling also leads to fewer loan defaults.
- Fewer defaults leads to greater profitability.
How does Affirm achieve these outcomes?
- By leveraging data at scale to build, define, and deploy risk models at scale.
- Data is imperative to AI/ML which drives product success.
- Text below is from Affirm’s 10-K:
Customers Technology and data are at the core of everything we do. Our expertise in sourcing, aggregating, and analyzing data has been what we believe to be the key competitive advantage of our platform. We believe our…data give us a unique advantage in pricing risk. We use data to inform our risk scoring in order to generate value for our consumers, merchants, and capital partners.
We collect and store petabytes of information that we carefully structure and use to regularly recalibrate and revalidate our models, getting to risk scoring and pricing faster, more efficiently, and with a higher degree of confidence. We use AI/ML in many aspects of our business, including fraud, credit risk analysis, and product personalization.
The AI/ML models that we use are trained using various data sets. If the AI/ML models are incorrectly designed, the data we use to train them is incomplete, inadequate, or biased in some way, or we do not have sufficient rights to use the data on which our AI/ML models rely, the performance of our products, services, and business, as well as our reputation, could suffer.”
How Affirm (and other BNPL Vendors) Operate and Generate Revenue
- There are three parties in a BNPL transaction: a consumer (the borrower), a merchant, and a BNPL vendor.
- BNPL provider performs a soft credit check on the consumer at the point of purchase.
- When this step is completed, the customer pays the provider back in an agreed-upon series of installments for the item purchased.
- Some BNPL services offer a fixed number of installments, others allow the customer to choose the installment plan they prefer.
- Most plans run in the range of 3 to 24 monthly payments.
- On the other end of the transaction, merchants typically pay the BNPL provider between 2-8% of the purchase amount, and in some cases a small per-transaction fee.
How large is the BNPL Market?
- There is a significant global opportunity within payments: the global opportunity is estimated at $10T by 2024 and BNPL has less than 2% penetration today.
- With a forecasted 4-year CAGR of 27% I expect to see more BNPL vendors building, growing, and scaling on cloud infrastructure, like AWS.
What are the Dynamics of the BNPL Market?
- By 2025 BNPL leaders (Afterpay, Affirm, Klarna, PayPal) will process $650B-$1T in transactions.
- BNPL usage growth was largest in the 18 to 24 (62% growth) and 55+ (98% growth) age groups over the past FY.
- 36% of BNPL users use BNPL once a month or more, and 37% of U.S. shoppers have tried an installment payment service according to PYMTS data.
- Key BNPL growth drivers include merchants shifting towards omnichannel and using BNPL to help increase conversion, basket sizes, and customer acquisition; consumer preferences shifting away from traditional credit; and an expanding set of players for vertical specific use-cases (retail, travel, healthcare, etc.).
- BNPL has diverted $8-$10B in annual revenues away from banks, according to McKinsey’s Consumer Lending Pools data.
- Machine learning is reshaping the accuracy and speed of underwriting and modeling consumer credit risk.
Amazon Loves Flywheels. BNPL is a built-in Payment Flywheel.
- BNPL attracts consumers as it makes it easier (i.e. credit, liquidity) to purchase items.
- More users mean more leads to merchants (i.e. Amazon).
- With more merchants accepting BNPL, there is more quantity and variety of items for consumers to access.
- This enables BNPL vendors to bring consumers and merchants together, creating additional value at the point of purchase.
- This attracts more consumers.
- More customers enhance underwriting software and thereby reducing default rates.
BNPL Applications: Online and POS Systems
- There are two BNPL use-cases: online and point of sale (POS) systems. Amazon.com operates in both domains.
- Online: BNPL options can be added to the payment methods of your online store checkout. Online customers can then pick it as a payment method, choose a repayment plan and complete the transaction.
- POS: Retail/brick and mortar shops can use a POS system with a BNPL option added to payment methods. The merchant can then offer this at the in-store checkout, typically through a QR code or payment link.
- Emerging BNPL use-cases: subprime borrowers (Kafene), medical visits (Walnut), retail (Zest), & travel (Uplift).
BNPL Market Leaders
|BNPL Company||Interest rate||Late fees||Market Cap|
|Affirm||Up to 30%||None||17B|
|Afterpay||0%||Up to $17 per late payment, capped at up to 25% of your initial order value.||29B|
|Klarna||0%||Up to $7 (per payment)||45B|
|Sezzle||0%||$10 per payment||700M|
|Splitit||0%||None (though your credit card will charge late fees)||200M|
|Zip||0%||Up to $21 per purchase||4B|