January 21, 2021

Redefining “buy now, pay later” for SaaS — part I

Buy Now, Pay Later, credit, installment payments; whatever terminology you want to use, offering payment terms is a tried and true approach to facilitating commerce.

Redefining “Buy Now, Pay Later” for SaaS — Part I

Buy Now, Pay Later. A hot euphemism for a credit model as old as time. The historical “BNPL” has transitioned from the nostalgia-inducing “house tab” at general stores, to the ubiquity of the credit card, to most recently, a category of alternative financing startups who partner with e-commerce companies to offer flexible credit to consumers and businesses, often with a 12-month moratorium on accrued interest.

In this two-part post, I cover the modern evolution of Buy Now, Pay Later, how pricing models affect commerce from the perspectives of buyers and sellers, and how creative iterations of financing can be employed to appease both sides of a transaction — all through the lens of SaaS.

Why offer flexible payment terms?

Why? Because everyone prefers to receive a good or service today and deal with installment-based repayment over time, given reasonable terms. The benefits of BNPL are two-fold and are typically marketed to the end buyer while being sold to the merchant:

1. Merchant gets paid upfront, increases top line sales by reducing friction from shopping cart to purchase, and brings in new customers who otherwise would be averse to paying upfront

2. Customers have the ability to finance what might be a big ticket item, unburdening them from a large cash, or short-term credit card outflow.

The chart below shows the basic value prop of Buy Now, Pay Later for the buyer — turning a lump sum payment into recurring smaller payments over a defined time period.

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Buy Now, Pay Later, credit, installment payments; whatever terminology you want to use, offering payment terms is a tried and true approach to facilitating commerce. But how does this tie into SaaS? Well, what’s funny is that the SaaS (or any as-a-service) revenue model is literally a form of extending credit to buyers of software products. Despite being an ingenious use of financial engineering, locking a customer into a recurring stream of payments simply equates to breaking up one large payment into a cadence of smaller, time-based payments.

The merchant wins — recurring revenue smooths future cash flows, is stickier than transactional or one-off deals, and makes financial projections that much easier. In many cases (notwithstanding your sneaky cable bundle subscription that contains 10 hidden charges each month that you were unaware of), the buyer wins as well — why on earth would I drain my bank account on this purchase upfront when I could drain it slowly over time?

One could argue that billing monthly on an annual contract is not extending financing to the buyer, but rather, charging the highest possible ACV in exchange for customer-friendly flexibility. That’s merely a useless argument over semantics. Any logical seller would rather collect the full value of a contract in cold, hard cash on day 1. However, if they see that demand is faltering, or simply not optimized for scale, they can extend flexible payment terms tied to a contractual obligation. This is a simple, and highly effective use of financing, without the need for a lender serving as an intermediary due to the terms of the subscription contract (though the seller incurs the risk of churn before the contract is fully paid) — more on this later.

The art of pricing

Pricing, in its essence, is an art form, and a social construct — a sum derived from a combination of projected supply and demand plus some nuance on the part of a seller who is inclined to charge the maximum value before the demand-side pushes back or moves to a cheaper alternative. The art of pricing is turning something fluid and arbitrary into something that appears to be absolute and incontrovertible. Pricing in SaaS is an art form on steroids: creating “intrinsic” value for your good/service based on comps in your market, or if there is no market, making assumptions on a negative-sloping demand curve to define a reasonable price point that satisfies necessary margins without deterring a significant swath of the expected market. Then, after rigorous testing and defining the ideal ACV, the next lever to pull is the tweaking of the ACV via different billing frequencies (i.e. annual, quarterly, monthly, etc), and associated discounts.

If creative manners of extending credit and pricing as a blank canvas symbolizing limitless opportunity got you excited, you have a lot to look forward to in part II…coming soon.