Buy Now Default Later - YouTube Courses

Understanding Buy Now, Pay Later (BNPL) - The Situation#

Alright, let’s talk about these “Buy Now, Pay Later” companies. Get this – estimates from industry groups suggest they’re now holding onto over half a trillion dollars worth of debt. That’s a massive pile of money!

Now, figuring out the exact total debt for BNPL is tougher than tracking, say, credit card debt. Why? Because these companies don’t have the same rules about how they report their lending info.

This amount of debt is particularly worrying because, by design, BNPL loans are supposed to be short – paid off within about 8 weeks through a predictable installment plan.

But, new studies and even the companies themselves are admitting what you might already suspect: folks aren’t consistently paying off their accounts (like Klarna accounts mentioned in the video). Instead, they’re using it as just another way to stretch their money a little further at the end of the month when things are tight.

How BNPL Grew So Fast#

Most of the biggest BNPL companies are pretty new, only about 10 years old. But in that short time, they’ve exploded in size. A few things helped them scale up quickly:

Plenty of Investor Money: They got lots of cash from investors.
“Tech Bro” Approach to Rules: They had a bit of a relaxed attitude towards regulations.
Appealing Service: They offered something attractive to people who didn’t want to deal with the formal process of applying for traditional credit, for whatever their reasons.

The argument these companies made was that they weren’t really giving out “loans.” They said they were just letting people split up a purchase into smaller payments over a set time. And the big selling point? If you paid on time, you wouldn’t pay any interest.

So, they handed out these quick, easy, “not-loans” to anyone who downloaded an app. Now, they seem surprised (like a “shocked Pikachu,” as the text says) that this “not-debt” isn’t getting paid back.

Rising Defaults and BNPL’s Unique Risks#

It’s true that consumer debt defaults are increasing across the board right now. But BNPL has its own set of risks that can make things much worse than someone just failing to split their Costco hot dog into four payments.

People find BNPL services very appealing, almost addictive. The text includes quotes like:

“Why is paying for so addictive?”
“I’m using CLA to pay for these Chris Brown tickets. I don’t care what nobody says.”
Being under financial stress “takes a lot of time, a lot of planning.”
“I am Afterpay’s number one consumer, number one fan.”
“I don’t know what it is about a paying for, but I can just never resist. I will afterpay it cuz I feel less guilt.”

BNPL vs. Credit Cards: Similarities and a Key Difference#

On the surface, BNPL services aren’t that different from credit cards.

Similarities:

Both let you buy stuff now and pay later.
Both offer interest-free periods if you make your payments on time.
Both are popular with businesses because they make it easier for customers to spend money they might not actually have on hand.

It’s also true that both options come with extremely high interest rates and fees if you miss payments. While BNPL companies sometimes try to downplay these risks, it shouldn’t be a shock that lending unsecured debt to people who might struggle to pay is risky, and risky lending usually means high interest rates.

The Big Difference:

Despite the similarities, there’s one major difference people often miss.

Credit Cards: According to data from the Fed, credit cards are among the most profitable products banks offer. Even with interest-free periods, banks make returns four times higher on credit card lending compared to other things like mortgages, business loans, or standard personal loans.
Buy Now, Pay Later: These companies, on the other hand, have mostly struggled to make any profit at all. Many have reported spectacular losses.

Profitability Problems: Specific Examples#

One firm (identified as Affirm based on the numbers) lost nearly half a billion dollars last year. That was actually better than the year before when they lost almost a full billion dollars.
Getting financial data on companies like Afterpay, Klarna (CLA), and PayPal’s BNPL service is harder. They’re either private (so they don’t have to share numbers publicly) or they’ve been bought by bigger companies, which hides their losses within the parent company’s overall results.
Klarna has raised a lot of money from companies like SoftBank to grow. They claimed they had some profitable periods, saying it was partly due to using AI to cut customer support costs. But the text points out that a lot of this “profitability” was actually thanks to:
- Low costs for them to borrow money.
- Being very optimistic about whether customers would actually repay their installments.
- Ignoring many other costs of running the business.
Klarna’s actual profit for one quarter was a loss of nearly $100 million, double the loss from the same time the previous year.
Even though it’s considered a leader in the BNPL world, Klarna has had to postpone its plans to go public (IPO) because it’s not clear if the business model is even sustainable.

These losses are happening across the industry, even though BNPL companies typically charge merchants a larger percentage of sales than credit cards do and hit users with higher effective interest rates on late payments.

The Cost to Everyone, Even Non-Users#

Here’s something key: even if you don’t personally use any BNPL services, you’re likely still paying for them. How? We’ll get to that.

The text suggests it’s time to understand how this works – how a business model that some see as “predatory” towards users worldwide still can’t even make money for itself.

(Note: This section matches the sponsor pitch from the original text)

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How BNPL Was Supposed to Make Money (and Why It’s Tough)#

Originally, BNPL companies planned to make their money mainly by charging a higher-than-normal fee to the stores (retailers) that offered BNPL as a payment option.

Standard credit card processors (like Square, Stripe, Shopify, PayPal) typically charge merchants about 1.5% to 3.5% of a sale to accept credit cards. (Info from Nerd Wallet and company sites).
Buy Now, Pay Later companies have started charging as much as 8% on sales for average retailers. (According to a report by Merchant Cost Consulting).
Bigger companies (Walmart, Amazon, DoorDash) can negotiate lower rates, but those deals aren’t usually public.

For many retailers, 8% can be their entire profit margin on a sale after covering their own costs. Paying that much to a BNPL company just isn’t possible if they want to make any money.

The problem for retailers is that their agreement with the BNPL company often forbids them from adding this fee onto the customer’s price.

So, retailers have a tough choice:

Make no profit on sales made through platforms like Klarna.
Raise prices for everyone (including customers not using BNPL) to cover this new expense.

The third option would be to simply not offer BNPL at all. But companies usually don’t want to do that for three main reasons:

BNPL Customers are “Perfect”: Industry data shows these customers are often younger than typical credit card users, tend to spend more on impulse, and have boosted purchasing power because they can split up payments.
Increased Likelihood and Size of Purchases: A Harvard Business Review study found that after starting to use BNPL, consumers were 17% to 26% more likely to make a purchase. Plus, their average purchase size was 10% larger than when using normal payment methods. This led to an overall 30% increase in discretionary spending (spending on non-essentials).
Fear of Losing Sales: They don’t want to lose customers to competitors who do offer BNPL.

A 30% jump in spending on non-essentials is a lot, and often more than the average household can really afford right now, especially among the groups most drawn to BNPL.

Why Credit Cards Can Be Better (If Used Responsibly)#

For people who can get credit cards and use them wisely, they are generally a better deal:

More flexible terms.
Better rewards programs.
Can help build a good credit history.

Credit cards are also more heavily regulated because they are officially classified as debt.

BNPL companies have so far managed to avoid that official “debt” classification. This means they aren’t as strictly regulated, which allows them to offer credit to people who might not qualify for traditional loans.

This isn’t saying credit cards are perfect – they can easily lead people to spend money they don’t have on things they don’t need too. But there are more rules around responsible lending for credit cards.

The “Financial Gymnastics” Users Can Do#

Since BNPL applications don’t show up on official credit reports in the same way, this lets some users (the text calls them “particularly self-destructive”) do some wild financial maneuvers.

Someone could get a credit card and apply for BNPL loans around the same time, and neither the credit card company nor the BNPL company would necessarily know about the other. Then, this person could use their credit card to pay off their BNPL installments. This stretches the time between making the purchase and actually needing the cash by more than 4 months.

Maybe there’s some complicated finance explanation for this involving the “time value of money,” but let’s be real. People are likely doing this either because they’re being incredibly financially irresponsible or because they feel they have no other choice.

The cost of living has gone up faster than most people’s incomes. Eventually, this stretching will catch up, but for now, people are using these “financial gymnastics” to delay the inevitable. BNPL has become just another way to put off having to face financial reality.

Who is Using BNPL? It’s Not Always Just Reckless Spending#

An industry survey by LendingTree found that one of the fastest-growing areas for BNPL purchases is groceries.

So, while it’s easy to say people using services like Afterpay are just being reckless, and some certainly are, a lot of this increased spending is really coming from people who simply couldn’t afford things otherwise.

A study by the Fed even back in 2023 found that more than half of BNPL users took out these loans because it was the only way they could afford the purchase.

This behavior – people spending money they really shouldn’t or couldn’t otherwise spend – is a huge motivator for businesses to accept those large commission fees BNPL companies charge.

The text includes a snippet capturing this high fee situation, like someone reacting: “Jesus, is this… is this stuff regulated or are you guys What are you doing here?” followed by “Uh, sort of. Sort of.” and “Jesus Christ, the spread on these is huge. 50% commission. Help for what? It’s our markup for our services.” (Note: The original text says “50% commission” but the earlier section specified up to “8%” on sales, so this might be highlighting a specific, possibly exceptional, case or a misunderstanding of the terms in the original clip).

Beyond Payments: Data and Sales Platforms#

As if all that wasn’t enough, these services also collect a ton of data on their customers. They act as a kind of sales platform for their partner brands, pushing deals and limited-time offers directly to individual users at specific times they think will be effective.

In the early days, companies like Afterpay started out almost more as a sales platform, running events like “Afterpay Day” where partner stores would have sales as part of a big online shopping event. This focus has lessened as they’ve become primarily payment providers, but they still use this sales-driving idea to justify their business model, arguing they’re more than just companies that charge fees.

Where Did the Investor Money Go?#

Klarna was once valued at over $45 billion. Investors didn’t worry as much about the lack of profit because they saw the huge potential profit if BNPL became the go-to payment method for a new generation.

But that hasn’t really happened. The money these companies raised was mainly spent on:

Research and development
Server hosting costs
Salaries for employees
Even fancy offices with ping pong tables!

But here’s the big point: The money that actually got lent to customers didn’t come from those investors directly funding the business operations.

It was borrowed from institutional lenders (like banks or other large financial groups) and then loaned out to customers. This is how banking fundamentally works – middlemen borrow money at one rate and lend it out at a higher rate.

The problem is, these BNPL services are apparently bad at lending money.

Lending Losses: Klarna Example#

Let’s look at Klarna again, because they’re one of the few whose financials are public.

In one quarter this year, they made $182 million in interest income. This came from people who missed payments and had to pay penalties.
However, they had to pay $130 million in financing costs (the interest on the money they borrowed to lend out).
Just looking at those numbers, you’d think they made over $50 million in profit from lending, right?

But here’s the kicker: people who are paying interest on late BNPL loans are often not reliable borrowers. The company also lost an additional $136 million on loans they don’t expect to recover (unrecoverable loans).

So, even with that interest income, they actually lost about $85 million in that single quarter, even when you look generously at their consumer losses.

Banks, while not perfect with credit cards, are usually more careful about who they lend to. They can also borrow money at lower rates from individual depositors (you, putting money in a savings account). And banks make money on people who aren’t late with payments through things like interchange fees (the fee the merchant pays the bank every time you swipe a card).

Basically, for a business that some see as taking advantage of people, they seem pretty bad at actually making money from it.

Comparison to Payday Lenders#

For consumers who are really struggling financially, BNPL has become an alternative to payday lenders. Payday lenders also have low standards for who they lend to. The main difference is that payday lenders charge incredibly high interest rates (like, hundreds or even thousands of percent APR) that more than make up for the risk.

BNPL companies haven’t really been able to do that. Charging sky-high interest would hurt their image as a fun, easy way to “#treatyourself” and worry about paying later.

The Future: Pushback and Trade-offs#

With such large losses from lending, BNPL companies become even more dependent on those merchant fees to stay afloat. But stores are starting to push back.

To get big retailers like Walmart and DoorDash to offer Klarna exclusively, Klarna has had to make special deals with much lower fees for these huge companies. This might help them get more market share, but dominating a market where you lose money isn’t exactly a winning strategy long-term.

Investors might keep funding these companies, hoping that if they can be the last one standing, they can then start raising prices (increasing their profit margins).

But for everyone else, that will likely come with costs:

For Businesses: Higher fees just to be able to offer BNPL as an option.
For Customers: Probably more hidden ways you’ll end up paying more than you intended.

Right now, companies like Uber, Airbnb, Netflix, and BNPL services are often in the “get as many users as possible” phase. Eventually, if they want to survive and make money, they’ll likely have to make their service worse or more expensive.

Honestly, it seems like there are no real winners in this situation right now. But nobody wants to be the one left with nothing if the whole thing collapses, which is a sadly common outcome with many new business trends.

A Bigger Picture#

In the end, BNPL might just be the latest symptom of a larger problem in the investment world – it’s become hard to make money from businesses based on simple, common sense principles.

If you want to learn more about why that’s the case, check out this other video [referencing another video suggested by the source text].

And make sure to like and subscribe to keep learning how money works!