If given their choice, retailers would ask customers to pay with store-branded credit cards before any other option. Probably their least desired purchase method would be buy now, pay later options that allow consumers to leave with the products and only complete the payment for them later. So why are so many retailers giving up the former and embracing the latter?

The short answer is, because customers demand it. Younger consumers do not use credit in the same way that previous generations have. Only about half of Generation Z consumers hold a credit card, usually a general purpose version. Far fewer sign up to receive credit lines at various retailers, as their parents or grandparents might have done. Faced with substantial student debt and concerns about cash flow, these consumers prefer to avoid racking up big credit card debt, so they simply don’t use them.

For retailers, that means they have no choice but to provide other options, if they hope to get younger consumers to shop with them. The buy now, pay later option is similar to layaway, except that the product leaves with the customer. The short-term financing comes from dedicated banking firms, such as Klarna, Afterpay, or Affirm. These companies pay the retailer immediately, then collect the costs over time from customers. The payment plans vary widely in length, such that some take just a few weeks, whereas others might extend for years.

Another key difference involves the types of purchases these payment options are being used to finance. Whereas layaway and staggered payments historically might have been reserved for expensive, big-ticket items, the buy now, pay later plans promoted in retail stores suggest using them for relatively smaller purchases too. A shopper might not have enough cash on hand to buy a nice perfume as a gift for Mother’s Day, but it will not take more than a month or two to pay off the charges, for example.

The financiers can charge late fees or penalties for failure to repay them, but most of their revenue comes from the fees they charge the retailers. That is, for the convenience of offering buy now, pay later options, retailers compensate the banking firms, at rates far higher than conventionally have been charged by familiar credit cards.

Thus on each buy now, pay later transaction, the retailer likely is losing more profit than it would have if the customer decided to pay with any other method. In addition to paying these fees, retailers that have maintained their own, store-branded credit cards are losing a source of revenue. Because they owned the credit company, they earned revenue on interest charges incurred by late payments by consumers. For some retailers, these sources of income contributed substantially to their bottom lines, and losing them has presented some serious problems.

In a sense then, buy now, pay later is a lose–lose scenario for retailers. And yet more of them keep adding it, faced with an impossible choice. They might be losing revenue, but they cannot risk losing customers altogether.

Discussion Question: 

1. List the pros and cons of buy now, pay later options for retailers and for customers.
2. What strategic pricing options might retailers leverage to address the challenges associated with increasing uses of buy now, pay later and the simultaneous decreased usage of store-branded credit cards?

Source: Suzanne Kapner, “Macy’s, Gap, Neiman Marcus Will Let You Buy Now, Pay Later,” The Wall Street Journal, February 28, 2021