Why Square acquiring Afterpay ‘makes a lot of sense'

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Square (SQ) is acquiring Australian buy now, pay later (BNPL) company Afterpay for $29 billion in stock, signaling that the digital payments company is entering the installment payment market.

"This deal makes a lot of sense for Square, especially insofar as it enabled the company to expand significantly, both in terms of product line and globally by using its stock as an acquisition currency," BTIG Managing Director Mark Palmer said on Yahoo Finance Live (video above).

Square is a brainchild of Twitter (TWTR) Co-Founder Jack Dorsey, who is CEO of both companies. Afterpay has been part of a leading coalition of companies pushing consumers to move away from credit cards to debit transactions, allowing users to defer payments interest-free, and skipping credit checks. (Merchants are charged a small fee.)

“In terms of the strategic rational," Wedbush Analyst Moshe Katri noted, "this is a transaction that significantly expands the number of active users on the consumer side of the business.”

A logo for the company Afterpay is seen in a store window in Sydney, Australia, July 9, 2020. REUTERS/Stephen Coates
A logo for the company Afterpay is seen in a store window in Sydney, Australia, July 9, 2020. REUTERS/Stephen Coates (Stephen Coates / reuters)

Bank of America analysts previously noted that the BNPL model is “attacking and disrupting the traditional credit card business.” And while the amounts spent are comparatively smaller, “the sector is rapidly gaining share.”

In a new note, BofA analysts called the deal a "bold acquisition," adding: "We believe the Street will react positively to the deal from a strategic perspective, in that Afterpay fits snugly into SQ’s two-sided ecosystem of merchants and consumers."

Square is entering 'an interesting space'

Splitting payments — as opposed to bulk purchases on credit cards that would accrue interest until being paid — is built on the premise that there is a “shift away from credit to debit,” Nicholas Molnar, co-founder and U.S. CEO of Afterpay, previously told Yahoo Finance.

Afterpay has more than 11 million customers who operate with 64,000 merchants.

The company is one of the leaders in an industry that has seen tremendous demand amid the pandemic.

"Buy now, pay later is an interesting space," Palmer said. "It's an online payment method through which consumers can pay for items in installments. It has really taken off during the pandemic. If anything, Square was a bit late to the game. "

A Sticky Rice Lao Street Food employee processes a Square credit card reader in Little Saigon, Orlando, Florida. (Photo by: Jeffrey Greenberg/Education Images/Universal Images Group via Getty Images)
A Sticky Rice Lao Street Food employee processes a Square credit card reader in Little Saigon, Orlando, Florida. (Photo by: Jeffrey Greenberg/Education Images/Universal Images Group via Getty Images) (Jeff Greenberg via Getty Images)

Afterpay faces robust competition: Swedish payments firm Klarna, previously valued at $46 billion, and U.S.-based Affirm (AFRM) have also been making deep in roads into the BNPL space over the years. PayPal (PYPL) is also in the space, offering the pay-in-installments option, and Bloomberg recently reported that tech giant Apple (AAPL) is also working on a BNPL offering in partnership with Goldman Sachs.

"Square — this was a bit of the departure from their typical approach which is to innovate organically, but they really needed to catch up and this enabled them to do that," Palmer noted, adding that if Square wanted to "compete with the likes of Visa and Mastercard, ... they need to be able to grab more of the consumer's wallet and do so as quickly as possible."

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Aarthi is a senior reporter for Yahoo Finance. Follow her on Twitter @aarthiswami.

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