15 Jul 2021
Nervous investors dumped ASX listed buy-now-pay-later (BNPL) stocks on Wednesday, concerned that new competition from giants Paypal and Apple would erode market share.
Shares in Afterpay (ASX:APT), Zip Co (ASX:Z1P), and Sezzle (ASX:SZL) all dived by 10% following news of Apple developing its own BNPL platform, and Paypal launching its “Pay in 4″ BNPL offering in Australia.
But is the selloff a knee jerk reaction, or part of a longer term correction for the sector?
Stockhead spoke to portfolio manager, Dean Fergie of Cyan Investment Management, who said the news made investors pause as they came from giant competitors.
“Whenever you see a giant business say they want to target someone else’s business model, it’s problematic and makes people re-question valuations,” Fergie told Stockhead.
But he believes that Apple and Paypal’s success in the sector won’t be a sure thing, as replicating a business model and being able to execute it well are two different things.
“To give an analogy, it’s not hard for someone to come and build a new social media platform, but it’s hard to replicate the adoption that a platform like Facebook already has.”
Fergie thinks that other bigger players would have made inroads into the market if it was easy, but the fact is, none have.
Commonwealth Bank has made the biggest effort to compete in the sector, with its Klarna and soon-to-be launched StepPay platforms, but its move could be considered defensive more than anything.
Financial advisor, Adam Dawes of Shaw & Partners, also agreed, telling Stockhead that although the presence of Apple and Paypal would be negative for the established players, the first mover advantage would still play a big part in fending off competition.
However, Dawes acknowledges that with more competition, margins will get squeezed and that could potentially be a race to the bottom for all.
“Every player will have to cut their fees to get merchants to sign up,” he said.
Is regulation good for the BNPL sector?
The whole sector has grown pretty much unhindered for the past few years due to lack of oversight, but there has always been a cloud of impending regulation hanging over the sector.
Fergie however, believes that regulation will not impact the business in any material way, and would even create more certainty for the sector if it did come in.
“It’s the uncertainty that’s the problem, not so much the actual impact,” he told Stockhead.
“I don’t think Afterpay would have any issues with any regulations because arguably they operate fairly, and most of these BNPL businesses are not gouging or taking advantage of any customers.”
Dawes meanwhile says that regulation is necessary as these are credit products, but he thinks that some players will be better placed than others when it does come.
“Regulation will take the shine off the sector, but Zip will do better when it comes because they do extra consumer checks.”
He also thinks that regulations are being pushed by the banks, which are fast losing market share in credit cards.
There has indeed been a big fall in credit card use amongst Aussies since 2016, and the emergence of COVID and BNPL platforms have only accelerated this trend.
In addition, loss-making companies like Afterpay are not valued on current earnings, but on their potential to grow these earnings.
Given the fact, could the share prices slide even further?
“These BNPL stocks are on very rich multiples, so any negative news is certainly going to impact current valuations because there is so much blue sky factored in,” according to Fergie.
Indeed, the sector has been on a downward slide this year.
After hitting a low of $8.90 in March 2020, the share price of Afterpay skyrocketed, peaking at just over $160 in February.
COVID-19 was obviously the major catalyst in the epic rise, delivering the company with groundbreaking sales to the tune of $2 billion across all regions.
But since February, the APT share price has been on a rollercoaster ride, going up and down to finally trade at $107 today – a loss of more than 30%.
It’s not just Afterpay. Across the sector Zip has lost half its value since February, while smaller players like Sezzle also plunged by 30% during this period.
Reflationary trades have been a major driver in the fall, as investors rotate away from growth into cyclical stocks in the past six months.
Dawes said that Shaw Partners has a buy recommendation on Zip, with a 12-month target price of $16, a significant premium from today’s price of $7.32.
Fergie meanwhile says that Cyan has the opposite view, and does not own any BNPL stocks in its portfolio, arguing that current prices don’t reflect the medium and current potential of these businesses.
“We can’t discount potential profitability in any realistic manner to justify the current valuations,” Fergie said.