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Has the BNPL bubble finally burst?

Has the BNPL bubble finally burst?

If you’re a long-term holder of Buy Now Pay Later (BNPL) stocks, right now, we are witnessing the decline of this over-inflated sector. It highlights, yet again, the importance of focusing on quality businesses, rather than chasing the latest fad stocks.

Way back in 2018 we warned investors about the BNPL space.  In an August 2018 blog post titled: The market loves Afterpay, but how long will the euphoria last? We wrote:

“Credit is a lot like water; both course their way to the lowest point. When interest rates are zero, the floodgates are fully open, and credit is cheap. But when interest rates go up, the floodgates close and the oases below, once abundant with life, dry up and die, starving those who had relied on its permanence.”

And,

“Finally, the experience investors have will very much depend on the ability of Afterpay to maintain its overall retail margin of circa four per cent of transaction value. While many retailers that Afterpay signs up initially might be willing to accept a four per cent fee, these early adopters might represent the ‘low hanging fruit’, enjoying higher gross margins themselves, and have signed on in the absence of competition.”

We then noted and listed the emerging competitors:

Partial.ly
Bread Payments
Affirm
Deko
Snap Finance
Futurepay
Split It
Sezzle

Our fundamental problem with the companies in the BNPL space was excruciatingly simple. First, they are nothing more than dressed-up factoring businesses, and factoring businesses have always earned meagre margins. Second, growth of their loan book has to be funded by dilutionary equity capital raisings or risk-adopting debt, or they simply can’t grow at the pace investors demand.

You can read our explanation in an Australian Financial Review article here, which noted:

“In trying to value the company and understand its economics there must surely be merit in analysing the company as a lender.

“High profile investor Roger Montgomery recently had a go, describing the 2.5 per cent net transaction margin Afterpay generated in 2017 as “not particularly earth-shattering.”

“Afterpay’s net transaction margin is hardly the focus of the market, which is salivating at the prospect of breaking into the US.

 “But in time, the performance of its book could attract more attention, particularly if that often warned-about turn in the credit cycle ever eventuates.”

Sadly for investors, many of the aforementioned competitors have now made it onto another list – a list of BNPL companies whose share prices have fallen by at least 70 per cent from their 2021 peaks, as below.

BNPL stock declines, 6 December from peaks in 2021 unless highlighted

Zip – down 70 per cent
Sezzle* – down 73 per cent
Zebit* – down 76 per cent
OpenPay – down 80 per cent (peak Aug 2020)
Douugh – down 81 per cent
Payright – down 82 per cent
Humm – down 84 per cent  (peak Oct 2013)
Splitit* – down 87 per cent (peak Aug 2020)
Fatfish* – down 88 per cent
Laybuy – down 90 per cent
IOUpay* – down 97 per cent (peak Dec 2002)

*Listed on the ASX but don’t operate in Australia

In October 2020 we offered another reason investors would be wise to avoid the BNPL bubble:

“As you’ve no doubt noticed, Buy-Now-Pay-Later (BNPL) providers, like Afterpay and Zip, are all the rage. But do their soaring share prices reflect their real value and future earning power? Or are we just witnessing the latest incarnation of tulip mania?”

Adding,

“When Afterpay’s closing share price peaked at $92.48 in late August this year, its market capitalisation was $26.3 billion. This was remarkable for a number of reasons. Its market value had risen 2,500 per cent in three years and eight-fold since March. At that moment, Afterpay was then worth more than Cochlear and Sydney Airport combined, worth more than double Scentre Group – the operator of Australia’s Westfield malls, and worth 25 per cent more than Coles Group.”

“For a company generating revenue of just $230 million (compared to Coles’ $37.4 billion) and losing money, a $26.3 billion market capitalisation was an extraordinary achievement, and with today’s market capitalisation of $22 billion it remains Australia’s 16th largest listed company.”

But it was this observation we made that we thought would eventually have the most relevance:

“While there is no shortage of BNPL pure plays, those that are publicly traded are all listed in Australia. One might argue that the multiples considered normal by Australian investors are a joke to investors elsewhere. If they’re right, it may be worth ensuring you can look back on this moment in stock market history and laugh.”

When companies of a certain genre operating around the world all decide to list on the ASX, it isn’t because Australian investors have some unique and exclusive insight into the value of these businesses.  It is simply because, at the time, they were willing to pay the most.

Buy Now…Pay Later indeed!

INVEST WITH MONTGOMERY

Roger is the Founder and Chief Investment Officer of Montgomery Investment Management. Roger brings more than three decades of investment and financial market experience, knowledge and relationships to bear in his role as Chief Investment Officer. Prior to establishing Montgomery, Roger held positions at Ord Minnett Jardine Fleming, BT (Australia) Limited and Merrill Lynch.

This post was contributed by a representative of Montgomery Investment Management Pty Limited (AFSL No. 354564). The principal purpose of this post is to provide factual information and not provide financial product advice. Additionally, the information provided is not intended to provide any recommendation or opinion about any financial product. Any commentary and statements of opinion however may contain general advice only that is prepared without taking into account your personal objectives, financial circumstances or needs. Because of this, before acting on any of the information provided, you should always consider its appropriateness in light of your personal objectives, financial circumstances and needs and should consider seeking independent advice from a financial advisor if necessary before making any decisions. This post specifically excludes personal advice.

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