BNPL: an opportunity for banks?

At its core, BNPL is not revolutionary. Its model is similar to that of point-of-sale (POS) financing, provided by traditional lenders such as banks. Both payment models let consumers take short-term loans at the point of sale, spreading the cost over a given period of time. This allows them to immediately purchase items without having to pay the full price up front. Unlike POS financing, however, BNPL loans usually come with no interest or fees and are more easily accessible for people with lower credit scores. Whereas POS financing typically involves banks and traditional lenders, BNPL loans are mostly issued by fintech companies like Klarna, Afterpay, and PayPal.

BNPL benefits both consumers and merchants. It offers customers financial flexibility and an effortless checkout process, while merchants gain higher sales conversions, larger order values, decreased acquisition costs, greater brand awareness, and customer loyalty. In short, BNPL offers a win-win solution for all involved — except, of course, traditional credit card companies and banks, which have had a tight grip on consumer lending until now.

“The low-to-zero interest nature of BNPL products has allowed fintechs to sneak ahead of banks in this space,” says Elina Mattila, Executive Director at Mobey Forum. “Banks will need to consider their own position in this growing market or risk losing revenues across their other credit-related products, as their customers become accustomed to accessing finance from elsewhere.”

What is driving the BNPL trend?

Consumer habits are constantly evolving, especially among millennial and Gen Z consumers who are drawn to the simplicity and convenience of e-commerce. Payments are no longer just seen as transactions but rather as an experience. BNPL is a product of this trend, and its mainstream adoption was largely accelerated by the COVID-19 pandemic. As consumers flocked to their favorite online stores, retailers had to act quickly to optimize the checkout experience.

Merchants that embraced BNPL quickly reaped the rewards. According to data from Klarna and Afterpay, merchants that embraced BNPL were not only 30% more likely to close a sale than ones that don’t, but the average order value was also 41% higher.¹

However, BNPL isn’t just about short-term borrowing with instant credit approvals and a seamless checkout experience – it’s also about the whole experience. Consumers are increasingly turning to BNPL super apps as the starting point for their shopping journey, creating new opportunities for merchants, both to connect with new customers and to personalize the experience of existing ones based on purchasing habits.

While BNPL purchases are currently most prevalent in the electronics (48%) and fashion (40%) industries², BNPL services are constantly expanding their offerings into new industries such as travel, insurance, and healthcare.³ However, as the BNPL industry grows, it must also brace itself for impending regulation. Currently, BNPL providers only complete basic credit checks before issuing loans, making them vulnerable to fraud and increasing exposure to defaulted debts. To mitigate these risks, regulators are likely to introduce stricter rules for BNPL providers.

In the UK, the Financial Conduct Authority (FCA) is pushing for affordability to be more closely aligned with credit risk assessments, while working closely with four of the biggest BNPL providers to promote transparency and safeguard consumers.⁴

Have banks missed the BNPL boat?

Although banks’ share of consumer loan revenues is dwindling, there is still hope for traditional lenders that show a willingness to keep up with the times and embrace the growth of BNPL services among young consumers.

According to a study by PYMNTS, 70% of current BNPL users indicated an interest in making use of their bank’s BNPL services, should they be made available.⁵ Not only does this underscore the potential in this market for banks to capitalize on, but it also points to some of their biggest advantages over BNPL providers. Compared with the relatively young fintech companies and BNPL providers that often operate in unregulated territories, banks benefit from a well-established image developed over decades. Customer loyalty and trust make the process of adoption of new payment methods much smoother for their large user base, while also keeping acquisition costs considerably lower than their BNPL competitors.

Then there is the question of the sustainability of the BNPL model. During the COVID-19 pandemic, when the cost of capital was low, fintech BNPL companies were valued based on their soaring growth rates. However, with investors now focusing on profitability, BNPL providers are under increasing pressure to show a return on investment.⁶ Here, too, banks have a significant advantage. Unlike their fintech counterparts, which rely on external investments and aggressive strategies to acquire new customers, banks have the benefit of their own funds and an established customer base to target.
 
It’s one thing to have a competitive advantage, but another thing to capitalize on it. Banks may have a willing customer base and the financial resources to compete with BNPL providers, but in order to do so they are encouraged to reimagine their product portfolios to better meet the needs of their current customers and make themselves more attractive to the younger, digital-first generations. This can be done in several ways.

Reimagining their offerings: embracing flexibility and digitalization

The first step banks can take to further embrace digitalization and mobile wallet capabilities is to create a product in the mold of a super wallet, incorporating features such as BNPL directly into the mobile banking app.

Volkswagen Bank and Raiffeisen Bank International (RBI) have led the way with their own BNPL-like offerings in recent years, leveraging credi2’s white-label fintech solutions.⁷ As early adopters, these institutions have laid out the blueprint for other banks to follow suit and establish their own flexible payment solutions within a matter of months. But why stop there? Rather than relying on third-party integrations, banks can even turn themselves into digital stars by building their own multifunctional platforms and putting their own brand directly in front of customers.

Another way for banks to stand out from the BNPL crowd is by providing more personalization. Digital banking and BNPL services offer many benefits, but a physical credit or debit card remains a must-have for many consumers, even the younger generations. A custom-designed card symbolizes the bond between the bank and the customer, a daily reminder of their lifestyle and mission. Even something as simple as the packaging and unboxing experience of a physical card can create a stronger bond between bank and consumer, ultimately boosting customer loyalty for traditional banks.

When it comes to credit cards, however, the younger generation tends to be more skeptical — just another reason why they favor solutions like BNPL. In order to overcome this, banks should consider offering more flexible card products. For example, CommBank in Australia offers credit cards that, instead of charging interest or hidden late-payment fees, require a simple monthly fee — only payable when the card is being used. This type of card may cost more in the long run than a traditional credit card, but the flexibility and transparency it provides can be an attractive proposition for consumers.⁸

To satisfy the needs of traditional credit card users, an alternative solution to BNPL for banks could be to offer customers installment payments on purchases made with credit cards. Citibank, for example, has adopted this with their Citi Flex Pay solution, which allows credit card customers to make purchases and pay them back over a set period with a fixed rate.⁹ This solution eliminates the need for additional credit checks at the point of sale since the customer has already been approved for the credit line on their card.

The way forward for banks

BNPL has the potential to disrupt the lending industry, but it won’t be the last innovation to do so. Consumer expectations and behaviors are continuously evolving, and the payment and banking landscape is becoming increasingly more competitive — there will always be a new trend to adapt to. To remain relevant and attractive to all types of customers, traditional banks and credit card providers must continuously reinvent themselves and stay flexible, not only in terms of their strategic decisions but also in terms of the payment services they offer.

Published: 02/05/2023