Buy now, fail later? Banks struggle to cash in on Klarna’s success

Natwest recently confirmed it would axe its buy-now pay-later scheme. Industry experts suggest the move could be a sign of things to come as banks struggle to compete in the space.

As buy-now pay-later (BNPL) products started to take the UK by storm, banks were forced to rethink how they provide credit.

Eventually many of them decided to take the plunge, launching their own offerings in 2021 and 2022 to compete with major BNPL players Klarna, Clearpay and Zilch. 

But earlier this month one of those banks, Natwest, confirmed it would axe its BNPL product for customers in May, just two years after launching it. 

Reports said the move came after lower-than-anticipated use, while a spokesperson for Natwest told City A.M. that it was instead “focusing on helping our customers spread the cost of their purchases through our credit cards, overdrafts and loans”.

Experts suggest, however, that Natwest’s exit could be a sign of things to come as banks are struggling to gain a foothold in the market. 

Banks move in

BNPL enables consumers to pay for items in weekly or monthly instalments, mostly free from interest.

Purchases via BNPL services made up around seven per cent, or £22bn, of the UK’s ecommerce transaction value in 2023, according to Boston Consulting Group (BCG). It expects BNPL’s market share to grow to between 10 and 15 per cent, as much as £45bn, by 2028.

Growth in the sector was supercharged as the Covid-19 pandemic pushed consumers to online shopping. Liam Evans, a director at consultancy Alvarez & Marsal, told City A.M. that banks responded by “jumping on the bandwagon”. 

HSBC UK launched a credit card instalment plan in 2021 with a monthly fee, while Virgin Money Slyce launched in November 2022 – with fees only for its nine and 12-month plans.

Digital bank Monzo’s Flex card is interest-free when repaying within three months, but after that it charges interest on payment plans up to 24 months. 

US giant American Express dived into Britain’s BNPL market in February when it launched “Plan It” in the UK, allowing customers to pay off large credit card purchases in instalments for a fixed monthly fee.

Profit problems

Industry experts say that banks are struggling with the fact that, as things stand, it is not easy to turn a profit in this space. 

Despite narrowing its losses and reporting one quarterly profit last year, Klarna has not been regularly profitable since 2018. The Swedish firm, which is gearing up for a big-ticket IPO, posted a net loss of 2.5bn kronor (£191m) last year, an improvement from its 10.4bn kronor (£794m) loss in 2022.

Klarna’s interest-free plans have meant that, unlike other major lenders, it has missed out on bumper profits from central banks’ rate hikes.

“The model hasn’t proven that it can be profitable,” Evans said. “So the large banks may have to accept that they don’t make money from BNPL, but they make money from other areas.”

“Big banks years ago started to withdraw the types of credit available to financially vulnerable people – for them the risk level was too high,” he added. “So they’re entering a space they probably don’t want to be in, but they feel they have to because customers are sticky and they’ll provide profit elsewhere.”

One senior payments consultant, who asked not to be named as their firm works with large banks, told City A.M. that established lenders were quite hostile to the sector before moving in.  

“The banks’ initial approach was to criticise BNPL and get it regulated out of existence. Then they tried product innovation. Neither of those bets paid off,” they said. 

“You need the ability to make a credit offer in the browsing experience and make micro credit decisions as the consumer checks out with minimum disruption. Banks don’t perform well on these two metrics.” 

“The banks’ initial approach was to criticise BNPL and get it regulated out of existence. Then they tried product innovation. Neither of those bets paid off.”

One senior payments consultant

Missing merchants

Lenders have broadly moved into BNPL as part of an extension of their credit card offerings, rather than point-of-sale finance.

In recent years, most big banks have significantly downsized their merchant acquiring arms – which build billing relationships with businesses – making it more difficult for them to charge sellers a fee for providing an instalment plan.

Natwest agreed to sell Worldpay to Advent International and Bain Capital for £2bn in 2010, while HSBC offloaded its Merchant Services business to Global Payments for $746m between 2008 and 2009.

By comparison, Klarna now has more than 31,000 merchant partnerships in the UK alone. BNPL firms earn fees from partnered merchants, who hope that allowing customers to easily spread costs will mean they make more purchases.

“They can’t charge the merchant, they can’t charge the consumer, so they’ve launched it as a loss leader to defend their credit card books against the rise of Klarna,” the consultant said.

“They’re trying to convert their traditional credit card product into one that changes consumer behaviour and results in a smooth checkout, and they just can’t do it. It’s clunky and consumers aren’t interested.”

Barclays Partner Finance is the only major merchant acquiring arm remaining among the Big Four banks. The lender has offered financing at retail checkouts for years and has partnerships with Apple and Amazon for instalment plans.

HSBC, Virgin Money and Monzo did not provide comment when approached by City A.M. on how their BNPL products were performing and whether they were planning to make changes. 

However, Klarna couldn’t resist a swipe at the banks when asked about the state of competition in the market. 

“It’s pretty wild watching traditional banks repeatedly fail to offer fairer credit options,” Raji Behal, head of Western, Southern Europe, UK & Ireland at Klarna, told City A.M. “They just can’t help cashing in on people who are stuck paying sky-high interest rates month after month.”

“It’s pretty wild watching traditional banks repeatedly fail to offer fairer credit options.”

Raji Behal, head of Western, Southern Europe, UK & Ireland at Klarna

Banks move out?

The consultant said they expected other banks to make similar announcements to Natwest.

“It is very difficult to see how in the long term they can be profitable in this BNPL space,” added Evans. 

Another possibility is more M&A activity in the sector. 

“We anticipated that few BNPL companies will remain independent. Some may be acquired, others may cease operations if their products cannot remain competitive in the market, or if they are unable to navigate the impending wave of regulation,” Moody’s said in a November report on the market.

One development that could also influence the future direction of the market is Apple’s adventure into BNPL. Apple Pay later, which is facilitated by Goldman Sachs and built into the Wallet function, was rolled out in the US last March and allows users to apply for zero-interest loans of between $75 and $1,000 repaid over six weeks.  

While the product is yet to launch in the UK, Apple’s dominance in payments made via mobile wallets gives it a competitive edge in the BNPL market. The tech giant says more than 99 per cent of British retailers accept Apple Pay.

Rather than bow out, others suggest banks could develop and rework their BNPL offerings going forward. 

Kunal Jhanji, a managing director and partner at BCG, told City A.M. that the market “might be more active than it seems on the surface” as banks look to make their products deliver sustainable returns.

“We are hearing a lot of the conversation with our clients around what future models could exist, could it be a hybrid between a customer and a merchant,” Jhanji said. 

While axing its direct-to-consumer offering, Natwest is developing Boxed – a banking-as-a-service business that will provide white-labelled lending products to merchants including BNPL.

Jhanji added: “I have no doubt there will be more evolutions of BNPL to come, to make sure that the broader objectives of doing right by the customer but also making a sustainable product are fulfilled.”