Buy now, pay later is suddenly all the rage, with top tech companies like Apple and Amazon now getting in on the action. As investors race to figure out how to play the trend, analysts have come up with their top stock ideas. What is BNPL? BNPL plans let customers spread the cost of items over a series of monthly interest-free instalments. Providers usually take a cut from retailers on each transaction, the idea being that the flexibility of BNPL payments brings more customers to a merchant's website. The trend has gotten wildly popular over the course of the coronavirus pandemic, with millions of people now using a BNPL service to finance their shopping purchases. PayPal launched its own BNPL service last year and recently agreed to acquire Japanese provider Paidy for $2.7 billion. Square is buying Australian firm Afterpay for $29 billion. And both Amazon and Apple are partnering with Affirm to launch their own BNPL offerings. 'Pure play' stocks One of the best ways to get exposure to the growth of BNPL services, analysts say, is by focusing on the "pure play" companies. Those include Affirm, PayPal and — with its acquisitions of Afterpay — Square. Klarna, the Swedish fintech, is one of the biggest BNPL providers with over 20 million U.S. users. However, it is not yet a listed company. "I think those end up being the Big Four," Daniel Perlin, an analyst at RBC Capital Markets, told CNBC. "All these other smaller players that are either public or coming to market, they lack scale and that's a problem." Perlin says achieving scale is key to success in the BNPL market as it enables firms to capture far more data about users and target them more efficiently. The sector is fertile ground for online advertising, he added. "You get more data on the customer's behavior from your BNPL provider than you would do from your credit card provider," Christopher Brendler, analyst at D.A. Davidson, told CNBC. "Credit cards don't give merchants any kind of loyalty or customer insights." Affirm Affirm is one of the biggest U.S. BNPL providers. Founded in 2013 by PayPal co-founder Max Levchin, the company listed on the Nasdaq in January and has since seen its stock price more than double. The company has partnered with the likes of Amazon, Apple and Shopify to make its BNPL checkout option available for their customers. "I think Affirm is incredibly well equipped to target and partner with a lot of large enterprise platforms," Perlin told CNBC. "The depth of their product is much wider than anyone else's and they are willing and able to not just do short-term, split-pay products but also longer-duration, real underwriting." The firm reported better-than-expected revenue in its most recent quarterly results last week, and gave strong guidance for the current quarter. "I do think they're making the case that they have a very unique model because they're doing subprime credit risk at a very low loss rate," Brendler said. "Their technology and their underwriting is an underappreciated advantage." However, he cautioned: "When the cycle turns, the stock will not do well." "Right now with the credit quality and jobs growing and consumers flush with cash, it's a great place to be. I'm just not sure what the next stage will be when we do see higher credit costs." PayPal PayPal entered the BNPL race last year with the introduction of its "Pay in 4" product in the U.S. It also has a U.K. version called "Pay in 3." Perlin says that PayPal "had to do something" in BNPL out of "competitive necessity." "If these [BNPL] assets were landing on the checkout page, I think PayPal would admit that they were losing share to them and therefore they needed to do something quickly," he added. Brendler sees PayPal as less of a "pure play" BNPL provider than companies like Affirm and Afterpay. However, he thinks it's a stock worth buying to gain exposure to the continued growth of the industry. "PayPal has almost overnight become a market leader in this space because they already had the plumbing in place," Brendler said. "They are now on track to be the leader in the United States by next year." "It's not as big a part of the story as Afterpay or Affirm but I think it makes a bit more sense to play a PayPal here given it's at a much more attractive valuation," Brendler said. PayPal shares are up over 15% so far this year. Square/Afterpay Square, the payments processor owned by Twitter CEO Jack Dorsey, first signaled its interest in the BNPL market in August with a deal to purchase Afterpay for $29 billion. The fintech company is most known for its consumer-facing Cash App and payment tools for businesses. "I'm a big believer in Square, a big believer in Afterpay, given their low credit risk and high-velocity models," Brendler said. Perlin said Afterpay could serve as the "connective tissue" connecting Square's consumer and merchant-facing businesses. "You could start to close the loop of Square's ecosystem on the seller and the Cash App side with Afterpay," he told CNBC. Twitter could also play a role in developing the BNPL ad proposition, Perlin added, given Dorsey serves as the social networking site's CEO. "If you wanna be really provocative about it in the long term, what you need then is a true feedback loop inside of that ecosystem. And that's where Twitter comes in," he said. Square and Afterpay are up over 15% and 6% year-to-date, respectively. Smaller players Elsewhere, there are several smaller companies listed in Australia that analysts said could give investors some exposure to the BNPL market. Such firms include Sezzle and Zip . "I like Sezzle because it's small cap, super cheap and has a potential to get bought with the consolidation we've seen with this space," Brendler said. Incumbents Meanwhile, a number of legacy financial services firms that offer store-branded credit cards are responding to the rise of BNPL with their own solutions. Alliance Data Systems recently acquired a company called Bread to push into the BNPL market, while Synchrony Financial and Capital One have both announced plans to introduce or test their own instalment products. Perlin said incumbents like Capital One could look to further ramp up their BNPL ambitions by buying up a smaller player, like Sezzle or Zip. Regulation One risk to look out for in the coming months is potential regulatory action, Brendler said. Earlier this year, the U.K. government announced plans to regulate the sector . "There's potential for a regulatory response which could slow the growth," Brendler said. But he added he doesn't think the U.S. will follow suit anytime soon.
The logos of Afterpay and Square.
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