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Buy now, pay later: Will Afterpay’s shareholders foot the bill?

In its survey of 1000 respondents conducted last month, UBS found the proportion of BNPL users on the federal government’s stimulus packages – JobKeeper and JobSeeker – was well above that of non-users. In the case of JobKeeper, the BNPL users participating in the survey were 270 per cent more likely to receive the payment.

More worryingly, UBS reported that 60 per cent of the respondents on JobKeeper and 40 per cent on JobSeeker, “believe they would have defaulted” on the BNPL payments had it not been for the government subsidies. That’s about 22 per cent of all BNPL users that were surveyed and according to UBS, the survey results raise the prospect of Afterpay copping a hit once the government stimulus is taken off the table.

“There remains a risk of defaults if payments are removed before users return to work or if users lose their jobs,” it warns.

To put it in perspective, keep in mind that the most recent feast for Afterpay shortsellers – investors betting against the stock, who profit when the share price falls – came when pandemic worries sent the stock price plunging from a record high of $40 in February to a low of $8.90 just weeks later.

It reflected worries that the coronavirus pandemic represented an existential crisis for the BNPL business model, which had not yet been tested in a financial downturn.

If the UBS report correctly reflects a heavy reliance on government handouts to keep BNPL customers afloat, then the day of reckoning for the likes of Afterpay may have merely been postponed.

Ample ammunition

Love it or hate it, both supporters and sceptics have ample ammunition to argue their case for a stock that is adored, and decried, as passionately as Elon Musk’s polarising electric carmaker Tesla.

Throughout this week, even some of the most ardent Afterpay investors were having trouble explaining the jump in the share price, given the scant details made available on the Westpac deal.

Afterpay is the first fintech to sign up to Westpac’s new tech platform that allows non-banks to piggyback on its service and offer savings and transaction accounts without the need to submit to the onerous conditions of a banking licence.

“Don’t get me wrong, it was an interesting announcement, but should a $20 billion company be up 5 per cent on that? Probably not,” says one investor, who didn’t want to be named.

“This is a positive new development, but it’s hard to know how excited to be at this stage given the exact details of the offering are scant,” admits Andrew Mitchell, a portfolio manager with longtime Afterpay investor Ophir Asset Management.

There remains a risk of defaults if payments are removed before users return to work or if users lose their jobs.

UBS

“The main excitement is it will add further products for Afterpay’s customers and will likely increase engagement and loyalty with the company. It will also enrich the data Afterpay has on their customers which is a very valuable commodity,” he says.

Afterpay founders Anthony Eisen and Nick Molnar have generated mutli-billion dollar fortunes in the four years since it became a public company.

Afterpay founders Anthony Eisen and Nick Molnar have generated mutli-billion dollar fortunes in the four years since it became a public company. Credit:ASX

Wilson Asset management portfolio manager Tobias Yao sees the announcement as a significant boost for Afterpay, pointing out that the depth of customer data alone could have a big impact on Afterpay’s ability to judge credit risk before it approves transactions.

And the sky-high valuation wasn’t worrying this Afterpay investor either.

“We believe the valuation is simply reflecting how effectively Afterpay is disrupting the payments industry on a global scale. The total addressable market is immense and underpins Afterpay’s growth profile over the next decade,” says Yao.

“While Afterpay is now a large Australian company with a market capitalisation of over $US20 billion, it is still considered an up-and-coming company on the global stage.”

Priced to perfection

Morgan Stanley also talked up the benefits of Afterpay’s access to richer customer data with the addition of banking services and the possible expansion of its financial ecosystem in the future. But that is not why the investment bank lifted its price target on the stock from $106 to $115.

Morgan Stanley upgraded its revenue forecasts based on expectations of Afterpay’s continuing global expansion and the festive season surge in spending.

Despite the abundance of confidence, some short sellers remain in the game of picking Afterpay’s comeuppance. Hedge fund manager John Hempton confirmed that his investment group Bronte Capital still has a short position on Afterpay but declined to discuss it further.

And UBS analysts are not alone in thinking there’s a stark disconnect between Afterpay’s prospects and its current valuation.

Morningstar’s Shaun Ler has a sell recommendation and a $35.10 valuation on the stock compared to a $28.25 price target from the respected UBS team, which includes analysts Eric Choi, Jonathan Mott and Tom Beadle.

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Neither UBS or Morningstar think Afterpay is a bad company. The issue to them is that it is priced for perfection in a market with few barriers to entry, big funding requirements, growing competition and the potentially significant threat of further regulation.

“The next two years will be critical for the firm to show whether it can continue to grow financed sales at prior rates and amid a global recession, while maintaining its merchant fees in the face of more competition and regulatory scrutiny,” says Morningstar.

While Afterpay’s product is scalable and resonating with customers and retailers both in Australia and overseas, Morningstar believes the level of competition it faces overseas means Afterpay will struggle to get anywhere near the penetration it has in Australia.

But the biggest question yet to be unanswered is whether Afterpay can continue to defy the economic downturn.

“That is definitely a risk,” says Yao. “Our view, however, is that if they can successfully navigate the next 12 months from a credit risk management perspective, it will further validate the strength of their business model.”

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