SotW 🇬🇧🚀: Zilch - BNPL with a twist.
A solution for the considered purchaser
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The BNPL space is dominated by three companies, Affirm, Afterpay and Klarna, whose combined annual GMV is estimated at over $60bn. They all operate a similar core business model of integrating with merchants on their checkout page to offer consumers the ability to split payment for their purchases over multiple periods, mostly for free. Affirm recently went public and their share price has soared 180% in almost one month, demonstrating investor interest in the space. For a deeper dive into the BNPL space, check out this report I co-authored with Fintech Today’s Julie VerHage-Greenberg.
While these companies have been leading the BNPL, this week’s Startup of the Week Zilch is taking a different approach and targeting a different user altogether.
Team
Zilch, based in the UK, was founded in 2018 by South African serial entrepreneur Philip Belamant who has been in the tech and payments space for fifteen years. Philip has roots in financial inclusion and the early POS financing space in South Africa which laid the foundations for what would become Zilch.
Product
Zilch is an over the top buy now pay later (BNPL) company allowing consumers to split payment over six weeks. So far, nothing that different to other competitors in the space.
While most other BNPL solutions are a checkout button, Zilch is taking a different approach by providing a virtual Mastercard, enabling it to be used with any merchant. Users sign up for an account and link their debit card and Zilch creates a virtual card which can then be used to shop at merchants online.
There are two ways Zilch customers can shop. A customer can go directly to a merchant’s website, use their virtual Zilch card and split their purchases over four payments. There is a one-off flat fee of £2 to do this.
The other alternative is that before going to a merchants page you go through the Zilch app and then go on to make your purchase at the merchant.
Market
Even in developed economies, there is always a group of consumers who are excluded from parts of the financial system and the UK is no different. Experian estimates there are nearly 6m people in the UK who have a “thin” or no credit file. This means they are potentially unable to access mortgages, loans or credit cards and may turn to expensive short term solutions like rent-to-own, overdrafts and payday loans. Three million UK consumers use high cost credit according to the FCA and as of 2018, had £3.9bn outstanding. Although there are now caps on excessive charges to protect consumers (see below), the presence of the market indicates an access issue.
This population of financially invisible consumers is primarily made up of young people, older consumers who have limited use for credit, the unbanked, recent immigrants and those struggling to make ends meet. Credit card penetration is low for younger consumers and this is partly a generational shift but also party due to the lack of credit file for these consumers who are only jut beginning to create a financial footprint. When consumers are young, there is a vicious circle of not being eligible for credit due to a lack of history and thus not being able to build up a credit profile. Gig workers also fall into this category of having a financial life that is atypical, making it more difficult for a bank to assess creditworthiness and are hence largely shut out of traditional credit sources.
This is why the adoption of alternative credit sources and high-cost credit is soaring. The FCA estimates three million consumers use high-cost credit and for many it is due to a lack of access to mainstream forms of credit. Undoubtedly, some of these consumers are accessing high-cost credit because they are high-risk borrowers or have exhausted traditional sources, but that is not the majority. A large number should be eligible for credit and it is these consumers that Zilch is targeting, those who are traditionally not financially included. The trend is similar in the US but with a much larger group of “thin credit file”, some 62 million Americans, according to Experian. These American’s are disproportionately Hispanics and African Americans.
The financial inclusion angle of Zilch is admittedly a tough sell for a consumer credit product. There is a lot of regulatory concern around BNPL companies encouraging spending and consumers racking up large amounts of debt, and this is not lost on Zilch.
But while other competitors are targeting casual shoppers who are browsing and may be persuaded to make a purchase that they weren’t already going to make because they can split the payment over a longer time period, Zilch is targeting shoppers who are making a considered purchase. A considered purchase is a purchase decision that is arrived at after some analysis and research. Not something purchased on a whim after seeing a social media ad. Zilch’s customer’s behaviour indicates they are succeeding in attracting this type of customer.
Business Model
Zilch is a product led, direct to consumer company with its virtual card, issued by Monavate, at the centre. While Klarna, Afterpay and Affirm have added a virtual card to their offering, it is an add-on to their core checkout button. The card business is a very different business compared to POS financing and success at one does not automatically lead to success with the other. With the two different ways that Zilch can be used, direct to merchant or via the Zilch website, there is an overwhelming preference for the latter. The friction of doing this may not seem obvious at first but it makes sense with the customer that Zilch is targeting.
Over 95% of Zilch’s customers choose to go through their app to shop. This is a huge conversion and something that other companies trying something similar would aspire too. One of the problems with websites with a similar model such as TopCashback, is the friction that a user has to go through to get the small financial incentive. Not to mention the bad UX. Whilst the other BNPL providers are trying to do the same, i.e. driving traffic to their own apps, they have not succeeded because of the casual browsing consumer they are used by.
Zilch has such a high conversion because its customers see a lot of value in spreading their payment for free. Zilch customers have a very high return rate, 85% and make repeat purchases with the brands they are loyal to. Zilch customers typically shop at only five or six stores on an ongoing basis and this is the type of customer Zilch is going after. The rate at which customers return products for other BNPL solutions is higher than average, around 30%+, which clearly demonstrates a different type of purchasing behaviour compared with under 10% Zilch. These behaviours indicate Zilch is on to something.
The key for Zilch, given it lacks the customer awareness of having a button at checkout, is attracting the customer in the first place through the top of the funnel. It must invest heavily in marketing to drive traffic to its website otherwise consumers don’t know what they offer. Once they are in, keeping the right sort of customer is easier but that initial customer awareness is a tough, competitive and ultimately costly battle. It would be great to see more partnerships with merchants to advertise their product on their websites.
Regulation
Regulators are keeping a close eye on the BNPL space and are likely to take a disapproving view of any company that is encouraging irresponsible spending. Klarna has already been wrapped on the knuckles for four instagram posts which the UK’s Advertising Standards Agency (ASA) banned because it encouraged consumers to use Klarna to shop and “boost their mood” (see above).
Very recently the FCA announced its plans to regulate BNPL companies due to fears of a pandemic induced build up of consumer debt. The Treasury is giving the FCA the power to regulate the industry after a review by Christopher Woolard. The Woolard review didn’t give any specific recommendations yet but reading between the lines I would expect a requirement of BNPL providers to financially contribute to consumer debt advice solutions, to provide more consumer education about the product, to be restricted around how BNPL solutions are presented to consumers, to have to conduct affordability assessments and for retailers to bear more responsibility. I think there will be some pushback from BNPL companies, especially as some of these restrictions don’t exist for credit card companies but it is clear the landscape is going to shift.
Regulators in Australia have already moved and they could present a case study for future regulations elsewhere. As of October 2021, BNPL companies in Australia have obligations for the design and distribution of their products and will need to monitor and review the outcomes of consumers using their products. Regulation at this level is unlikely to exist in the US but putting BNPL products on parity with requirements of other credit products seems inevitable.
Future
Zilch raised a $30m Series B at the end of 2020 and is gearing up to launch in the US. This has nothing to do with Brexit, but more is symptomatic of the fragmented landscape in Europe that fintechs and other tech companies face. The EU is simply a complex market whilst the US is a lot simpler, especially with its rapid adoption of e-commerce. The team is based in London and Zilch is looking to accelerate its UK rollout and build out the London team as well as enter the US market.
Affirm has paved the way for bringing attention to the BNPL market and has made US investors more comfortable with the space, which brings with it higher valuations. With the abundance of capital available, investors are looking for innovators to back. Affirm and the other incumbents have a very similar business model which has been around for a while and proved profitable. The merchant acquiring business is well understood and while some of these companies have tried to innovate with apps to funnel shoppers and virtual cards, it is hard to change the business around these new areas as it requires a different skill set. With the regulatory landscape set to become a headwind and the increasing competition, a different approach is needed.
Zilch takes an innovative approach which builds customer loyalty, shown through their high repeat purchases rate and compares favourably to the indifference casual customers show when faced with an array of BNPL options at the checkout.