Publications

- September 1, 2021: Vol. 8, Number 8

Why Jack Dorsey and Square paid a record $29 billion for the Afterpay fintech platform

by Lien Duong and Sonny Pham

The $29 billion that Twitter founder Jack Dorsey’s digital payments company Square is paying to acquire Australian upstart payments outfit Afterpay is the biggest takeover deal in Australian corporate history. It surpasses the $23.6 billion European commercial real estate giant Unibail-Rodamco agreed to pay for Frank Lowy’s Westfield Corp. in 2017.

The deal marks an extraordinarily successful journey for Afterpay, a company founded in 2014 and listed on the Australian Stock Exchange in May 2016 at $1 a share. Its closing price before this deal was announced was $71.43 per share, giving it a market capitalization of about $27.5 billion.

Square, which had a market cap of about $123 billion, may pay 1 percent of its buyout offer in cash, but the rest will be in stock, giving Afterpay shareholders 0.375 shares of Square for each Afterpay ordinary share.

The stock swap means the implied price Square is paying for Afterpay shares is about $93.24 — a premium of about 30.6 percent.

Why so valuable?

That’s to do with the profitability of the “buy now pay later” (BNPL) market, in which Afterpay has been a pioneer. The market has become even more profitable due to the COVID-19 pandemic, which has accelerated the use of online and cashless payments, as well as leaving more people short of money.

HOW AFTERPAY WORKS

BNPL companies are so-called because they work differently than traditional credit companies. The reason they emerged first in Australia can be attributed both to the inventiveness of Australia’s retail and finance sectors as well as a quirk in Australia’s credit regulation laws.

Under Australia’s National Consumer Credit Protection Act, credit is defined (in line with the dictionary definition) as a method of paying for goods with the credit provider making their profit through charging interest.

Afterpay does not charge consumers interest. The majority of its revenue instead comes from merchant fees, charging a commission of 4 percent to 6 percent on the value of the transaction, plus 30 cents for every purchase. The rest of its revenue comes from charging late fees when customers fail to make repayments on time.

Afterpay’s standard repayment plan is four equal installments every two weeks over two months. A missed payment incurs an initial $10 penalty. If you still have an outstanding balance after one week a further $7 is charged.

It could be argued these late fees are the equivalent of charging interest — and a hefty interest payment at that. One $10 late fee on a debt of $150 translates to an effective interest charge of 6.67 percent per fortnight. But because they don’t explicitly charge interest, Afterpay and other BNPL companies are not covered by credit laws. This has led to concerns about BNPL providers profiting at the expense of the most financially vulnerable consumers. In 2018, the Australian Securities and Investment Commission called for reform to close the legal loophole. It wanted BNPL providers to operate under the same rules as credit providers — including the same responsible lending obligations to perform a credit check and verify that customers could afford to take on the debt.

However, this has not happened. A Senate inquiry decided last year no regulation was necessary, instead endorsing self-regulation. Afterpay and its rivals signed a voluntary code of conduct earlier this year.

BOOMING PROFITS

Despite these concerns, the ease of Afterpay’s technology has made it a very convenient way to buy things. Its logo is becoming ubiquitous. Over the year to June 30 the number of merchants offering it as a payment option increased by 77 percent to 98,200, and number of customers by 63 percent to 16 million.

In the first six months of 2021, Afterpay’s gross profit was $284 million — about 150 percent more than the $113 million profit it booked in the six months prior to the COVID-19 pandemic (July-December 2019).

With the BNPL market proving to be so lucrative, credit card companies, banks and tech companies have been looking to muscle in. Visa announced its BNPL plans in July 2019, and it is just now rolling out its technology to merchants. Commonwealth Bank of Australia is also in the process of establishing its “StepPay” offering. Paypal launched its “Pay in 4” service in July. Apple announced in July its own plans.

Square, co-founded by Dorsey and Jim McKelvey in 2009, has gone the simpler route by buying the pioneer in the market.

Afterpay’s board has unanimously recommended shareholders accept the offer. Both Afterpay and Square shareholders still need to approve the deal. So too does Treasurer Josh Frydenberg, under Australia’s foreign investment laws.

But this is all likely to be a formality. It’s an offer too good to refuse.

 

Lien Duong and Sonny Pham are senior lecturers at Curtin University in Perth, Australia. Duong lectures in the school of accounting, economics and finance; Pham lectures in computer science. This article was published by The Conversation and can be read in original form at this link: https://bit.ly/3xmFehV

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