Investments deep dive - Afterpay

Despite the volatility of global stock markets in 2020, the Australian and New Zealand markets have remained resilient. One of the success stories coming out of our part of the world in Afterpay. 

The MAS KiwiSaver and Retirement Savings Plan funds invest in Afterpay, and we had a chat with Tom Phillips from investment manager JBWere, about why the stock has performed so well. 

Who is Afterpay and what do they do?

Afterpay (APT) is a Melbourne-based financial technology company founded in 2015, and specialising in “buy-now-pay-later” products for customers, merchants, and businesses in Australia, NZ, USA, Canada and the UK. They listed on the ASX in 2017 and started in NZ in September 2017.

It works as a payment method for online shopping, or can be accessed via an app for instore purchases. Afterpay allows retailers to offer instalment plans for online shoppers, allowing a purchase to be paid for in four instalments, due every two weeks. You choose Afterpay as your payment method at checkout.

What first interested you in Afterpay?

Overall, we were looking for a market ‘disruptor’ with a management team in place who had a proven record for delivery.

The business model is relatively simple and while the buy-now-pay-later model is hardly a new idea (credit cards and hire purchase are the most obvious examples) unlike a credit card facility, Afterpay is not a rolling line of credit and there is never any interest payable (provided you repay on time). Afterpay is effectively the reverse of a credit card, charging the retailer, not the consumer, when goods are purchased.

In addition, one of the founding directors was a respected manager and had a proven record delivering on new product strategy, vision and delivering on new opportunities.

How did you approach your initial investment?

We were very interested in Afterpay as an investment, but we didn’t jump in immediately. We had some initial concerns around how Afterpay would manage delinquency risk with the product potentially appealing to younger customers who may present a higher credit risk - and so our initial position was modest.

But our investment has benefited from first-mover advantage and our position has increased as we tracked Afterpay against key milestones such as delivering against revenue forecasts, customer growth and seeing positive feedback from customers.

Why have Afterpay performed so well?

Afterpay has taken Australian and New Zealand retailers and shoppers by storm (and is expanding), and I think there are several factors that play into this success.

Firstly, I think we have seen shifts in how customers are paying for products, especially younger customers. We had noticed millennial consumers were different in that they had debit cards, not credit cards. It has seemed that many spenders, particularly millennials, are conscientious and don’t like to spend money they don’t have. Afterpay was well positioned to meet this change by allowing customers to use their own money but spread it out in instalments. Customers also don’t pay for the service.

We also think that Afterpay has been positively received by retailers given active promotion to a tech savvy client base drives increased sales.

Afterpay makes the bulk of its money from the retailers that offer the service. The Afterpay payment model has proved difficult to replicate and it has certainly benefited from the first-mover advantage.

The growth of Afterpay can be seen in the stock price of Afterpay.

Source: Thomson Reuters Datastream. For the period 1/11/2017 to 19/10/2020. ASX share price in Australian Dollars.

What does the future hold?

Afterpay’s growth has exceeded even our initial expectations and has started to transition into a global operator with large international shareholders. Of particular note, Tencent joined the share register in May this year as a substantial holder.

Afterpay is currently the 15th biggest company listed on the ASX (as at 19 October 2020), and is establishing itself in new sectors, including health, entertainment, and travel. It is also opening up to Asian markets.

We believe Afterpay will continue to grow, structural change towards eCommerce in the current environment where customers have been forced to move online for purchases will help.

Despite potential risks, Aftepay’s model is scalable and lends itself to having a global reach. The most obvious near-term risks are weak September and December quarters as fiscal stimulus subsides, credit loss rates exceeding our forecasts and competition impeding growth. Neither, in our view, will have any material impact to the longer-term opportunity.