Affirm: Poised To Dominate The BNPL Market
Summary
- Affirm is one of many companies that is riding the “buy now, pay later” (“BYPL”) trend. This method of payment is becoming increasingly popular with millennials.
- Affirm has multiple partnerships in place with major e-commerce players. The company is better positioned to be the BYPL of choice for large ticket items.
- Affirm exclusively powers Shopify’s Shop Pay Installments. I believe in the long term Affirm would be the dominant option for all Shopify-powered websites.
After rocketing more than 100% post-IPO, Affirm's (NASDAQ:AFRM) stock has dropped quite a fair bit. I wanted to analyze the company to see if an investment is warranted at this price.
Background
Just a brief background on the company, Affirm is a payment platform designed from the ground up for digital and mobile-first commerce. The company hopes to disrupt the credit card industry by offering a solution that is more transparent, convenient, and innovative. The company does this in a few interesting ways.
Affirm’s mission is to help customers “spend responsibly”. The company has payment options that break up large purchases over a period of time. Unlike Credit Cards though, the company does this by fixing a set payment without hidden fees, or penalties. Having fixed payments and simple interest rates means that the company’s loans do not compound. This helps consumers avoid the “debt trap” caused by credit cards and compounding interest (i.e. when you need to pay interest on your interest).
The second is that the company’s payment system integrates into the e-Commerce platforms of major retailers. This allows for a more seamless shopping experience. For example, one of Affirm’s partners is Walmart (WMT). When checking out an item on the Walmart website you would see Affirm as a payment option along with credit card or PayPal (PYPL). In total, the company has partnerships with 6,500 merchants in a variety of industries.
Affirm’s Has a Compelling Value Proposition
Affirm is one of many companies that is riding the “buy now, pay later” (“BYPL”) trend. This method of payment is becoming increasingly popular with millennials who are eschewing credit cards for alternative payment options. Affirm points to two surveys in its S-1 that demonstrate this trend. First is TD Bank’s survey claiming that approximately 25% of Millennials do not carry credit cards. This is also corroborated by a Deloitte study that shows 52% of Gen Z and 41% of millennials prefer to use debit cards.
The other survey is a Harris Poll in 2020, indicating that 64% of Americans (81% for those between 18 -34 years old) would prefer financial products from a technology company’s platform instead of a traditional financial services provider. Furthermore, I believe Affirm’s customer-friendly approach will allow it to retain customers for much longer than the traditional credit card companies. Churn is something that happens frequently for credit cards as consumers consolidate and manage their debt burdens. In the case of Affirm, it may not be worth it as the payments are fixed and the APR is reasonable.
What this tells me is that the $100 billion credit card industry is ripe for disruption. Furthermore, 87% of younger consumers have expressed interest in trying out a BYPL company. Affirm is in a prime position given that e-Commerce is still rapidly growing with penetration only hitting 21.3% in 2020. If Affirm can be a dominant “default” option for all e-Commerce transactions then its valuation will grow much more than its $18 billion market cap.
A Key Risk is Competition in the BYPL space
Given the attractiveness of the BYPL industry, it should come as no surprise that Affirm has a lot of competition from established companies like PayPal to other upstarts such as Katapult (FSRV), Klarna, Quadpay, and Afterpay. Note that this is not an extensive list of all companies in the BYPL industry but rather the most significant firms right now. I believe that Affirm has significant advantages over its competitors putting it in a prime position to dominate the industry.
The first advantage that Affirm has is that it has larger retailers as its partners. Once a firm partners with a BYPL company, it becomes a competitive advantage as it doesn't make much sense to partner with multiple firms. Think of the operational costs of having multiple BYPL companies integrated into a website. Apart from Walmart, Affirm already has multiple partnerships in place with major e-commerce players such as Peloton (PTON), Purple (PRPL), Expedia (EXPE), etc.
Compare this to the merchants of companies like Klarna and Afterpay which are mostly clothing and accessories or smaller companies. Klarna’s major partners are Etsy (ETSY), Macy’s (M), H&M (OTCPK:HNNMY), and Sephora (OTCPK:LVMHF). While Afterpay’s major partners are Ulta Beauty (ULTA), adidas (OTCQX:ADDYY), American Eagle (AEO), and Reebok. These are all good companies but I believe that Affirm has the more impressive list.
Furthermore out of all the BNPL companies, Affirm has the longest loan term length from 3 months to 3 years. Compare that to Afterpay or Klarna’s loan term length of 6 weeks and 2 months respectively. This tells me that Affirm is better positioned to be the BYPL of choice for large ticket items.
Affirm also recently acquired PayBright a leading BNPL provider in Canada giving it a foothold in that market. PayBright has partnerships with over 7,000 domestic and international retailers including major retailers like Hudson’s Bay, eBay, Wayfair, Samsung, and Endy. This potentially could help Affirm expand its merchant list in the US if these companies already are working with its new Canadian subsidiary.
The second main advantage of Affirm is its partnership with Shopify, the leading e-commerce solutions provider. Affirm exclusively powers Shopify’s (SHOP) Shop Pay Installments in the US. This partnership will ensure that Affirm would be an option in thousands of e-commerce websites given’s Shopify’s dominant position on the web. Now to be fair, Klarna and Afterpay could also integrate with a Shopify website via plug-ins. However, it wouldn’t make sense to use those options when Affirm/ Shop Pay is available right out of the box. I believe in the long-term Affirm would be the dominant option for all Shopify-powered websites.
I don’t even consider Katapult to be a direct competitor of Affirm given how expensive the former is. A Katapult lease of $300 has expensive add-ons like an initial fee of $45 such that it has a $645 total full-cost of ownership. This tells me that Katapult deals with clients with a not-so-good credit rating which would be weeded out by Affirm. That’s not to say that Katapult is bad but it’s a different business model.
Investor Takeaway
Affirm is currently trading at a pretty rich valuation of 42x TTM Price to Sales ratio. For comparison, Afterpay trades at roughly a 36x Price to Sales ratio. I believe Affirm’s valuation is justified though given the revenue growth the company is experiencing. In its latest financials, the company had revenue of $204 million in Q2 2021 a 57% increase compared to the same time last year. The company’s active consumers grew 52% to 4.5 million in the same quarter.
Annualizing Q2 2021 revenue, the company would have a forecasted Price to Sales ratio of roughly 22.5x which is about the range we see in other high growth disruptive software companies. Assuming the company can grow at the same rapid 50% pace, Affirm’s revenues could hit around $6.2 billion in five years.
Looking at the underlying metrics, we can see that Affirm is firing on all cylinders. The company has a high average annual spend by repeat customers of $2,200 and high loyalty to the platform with 64% of transactions being driven by repeat users. On the merchant side as well the company has a 100% Dollar-Based merchant retention.
I believe that Affirm is better positioned than its peers and could be one of the dominant players in the BNPL industry. Firms like Afterpay and Klarna may have achieved faster growth by focusing on smaller ticket items. However, once BNPL becomes more widely accepted, Affirm’s partnerships will prove to be a significant advantage. All the trends favor Affirm and I have a buy rating on the company.
This article was written by
Analyst’s Disclosure: I/we have no positions in any stocks mentioned, but may initiate a long position in AFRM over the next 72 hours. I wrote this article myself, and it expresses my own opinions. I am not receiving compensation for it (other than from Seeking Alpha). I have no business relationship with any company whose stock is mentioned in this article.
Caveat emptor! (Buyer beware.) Please do your own proper due diligence on any stock directly or indirectly mentioned in this article. You probably should seek advice from a broker or financial adviser before making any investment decisions. I don't know you or your specific circumstances, therefore, your tolerance and suitability to take risk may differ. This article should be considered general information, and not relied on as a formal investment recommendation.
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