Buy now, pay later fintech Openpay [ASX:OPY] has called the receivers a week after reporting a record quarter, including a record quarterly total transaction volume of $126 million.
Last week, OPY’s chief executive, Dion Appel, said the December quarter showed the ‘enduring consumer demand for our differentiated offering’.
But that consumer demand is going to endure longer than Openpay.
The receivers are in.
McGrathNicol is now in charge of Openpay’s assets, operations, and trading activity.
McGrathNicol said customers will no longer be able to use Openpay for new purchases, but any outstanding balances must be repaid.
Out of curiosity, how many of these outstanding balances will be repaid? What are the chances of a huge spike in bad debts on this news?
Openpay’s receivership follows the voluntary delisting of peer Laybuy, who thought it would be better to escape the public limelight…and its admin costs.
McLean Roche’s Grant Halverson told the Australian Financial Review Openpay’s receivership highlights a wider problem for the sector:
‘This shows the frailty of the fintech model. You can’t run these businesses when interest rates go up. All these businesses run at a cashflow loss, the only reason they’ve been surviving — from Zip down — is by burning investor cash.’
Let’s dig deeper into the frailty of the BNPL business model.
BNPL unit economics
One way investors can assess the sustainability of a stock’s business model is by prying into the stock’s unit economics.
Unit economics may not be mentioned often by sell-side analysts, but it’s an important tool for buy-side analysts (who have more incentive to get the stock pick right).
Unit economics refer to a business’s fundamental metrics on a per-unit level.
What’s the most fundamental building block of a business? Trips for Uber, pizzas for a pizzeria, coffees for a café, etc.
And are these basic building blocks of a business profitable on a per-unit basis? That’s unit economics in a nutshell.
Profitable unit economics can scale.
Unprofitable unit economics — selling dollars for 70 cents — is unsustainable. Eventually, you’ll run out of capital.
So, what are the unit economics of BNPL stocks?
In the halcyon days, analysts were upbeat about the profit potential.
In fact, it was thought that BNPL firms like Afterpay — now subsumed under Block [ASX:SQ2] — already possessed profitable unit economics.
In 2021, two Australian Financial Review journos published a book on Afterpay (a great read).
In it, they argued that Afterpay’s unit economics were sound:
‘Afterpay’s transaction economics appeared highly attractive. For a $100 sale, the merchant would pay $4. Then 80 cents would be paid to Touchcorp for processing the transaction. About 70 cents would be lost in the form of bad debts and failed payments, arrived at by netting off total bad debts with late-payment fees received to calculate an average net loss per transaction. The remainder would be the net transaction margin of $2.50, or 2.5 per cent, on $100 of capital.
‘But Afterpay would lend out that $100 to a shopper and have it returned within six weeks. Over a twelve-month period, that $100 of fund would come back and be loaned out about twelve times, earning $2.50 each time. The implied annual return on $100 was therefore not $2.50 but twelve times that amount, or a highly attractive $30, or 30 per cent.
‘If Afterpay borrowed funds from a lender, the returns were even higher. Assuming Afterpay borrowed $50 of the $100 required to pay the merchant for the goods at the rate of 6 per cent, the $50 of remaining shareholder capital would generate a $30 return, less the $3 of interest, for a total return of $27, or 56 per cent.
‘The key to these juiced-up returns was the provision of a loan facility by National Australia Bank. It had made $40 million available to Afterpay in this form. But since the loans were short-term, like a credit card, the $40 million would be loaned out and returned twelve times throughout the year. The $40 million could therefore finance $480 million of sales over twelve months and that would generate Afterpay a net margin of $4.4 million.
‘So even if Afterpay was not yet turning a profit, each transaction was profitable. Crucial to the calculus, however, was the net transaction loss ratio of 0.7 per cent of sales. Afterpay was telling the market that the amount of money that was not being repaid was very low—just 70 cents for every $100 of sales. The collection of late fees was netted off as a recovery. The 0.7 per cent loss rate appeared to be lower than the 2.6 per cent loss rate for major banks on credit cards, but the banks number related to losses on total loans, not sales processed.’
Afterpay, of course, is still not turning a profit…so we could ask whether each transaction really is profitable.
Openpay’s unit economics
Let’s turn to Openpay.
Was its collapse brought on by failed unit economics?
The basic business unit for BNPL firms is the transaction or, in Openpay’s case, the active plan.
Here’s the breakdown for the last two financial years:
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Notice the steep drop in active customers? That’s because Openpay dropped its UK and US operations in FY22 to cut costs.
The widening net loss suggested that was not immediately fruitful.
So what are the rough unit economics gleaned from these numbers?
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Each active plan was actually losing Openpay money. No wonder its working capital arrangements fell through, precipitating the receivership.
We can break the unit economics down even further by going line-by-line through OPY’s FY22 profit and loss statement:
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Notice how Openpay’s actual FY22 net loss was wider than stated EBITDA loss due to the EBITDA calculation omitting Openpay’s finance costs, a big part of the BNPL business model.
What does the breakdown show?
Openpay’s FY22 revenue per plan was $19, but its other operating expenses alone were $18.50 per plan.
When you add up all other operating expenses, OPY’s operating margin was well in the negative territory.
That didn’t stop some analysts from touting the stock as a buy.
In November 2022, Shaw and Partners released a positive note on Openpay with a price target of 75 cents:
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| Source: Shaw and Partners |
A few months after that note, the ‘arguably best performing BNPL operator in Australia’ went bust.
But while Shaw and Partners may have gotten that call wrong, it still got something out of the whole thing. The company was Openpay’s lead manager for a capital raising in May.
Finally, one may ask if Openpay’s peers will fare better.
I’m not optimistic.
Openpay’s peers operate a very similar model, and their product is becoming more commoditised each year with new entrants with more scale like Apple, PayPal, and Commonwealth Bank.
BNPL firms would need to improve their take rates and drastically cut costs to ‘rightsize’ their unit economics.
But raising take rates will be hard in a competitive sector.
And cutting costs won’t be any easier with a rising interest rate environment.
Will the remaining BNPL firms see in Openpay’s demise an urgent call for drastic changes?
We’ll see soon enough.
Regards,
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Kiryll Prakapenka,
For Money Morning
