How will DDO impact BNPL?

The new Design & Distribution Obligations (DDO) will apply from October 2021. Their application will be broad, including to super funds, banks and insurers. Importantly, the rules will apply to the, until now, largely unregulated Buy-Now-Pay-Later (BNPL) sector.

Given that ASIC has already expressed concern about BNPL products causing consumer detriment, the regulator is likely to want changes to the way some BNPL products are designed and distributed. For BNPL providers who manage the change poorly this could potentially impact their future growth and profitability.

An appropriate target market

Under DDO, BNPL providers will need to determine a ‘target market’ for each of their products and will need to take ‘reasonable steps’ to ensure that each product is distributed to its target market. Those reasonable steps should ‘ensure that consumers are receiving products that are likely to be consistent with their likely objectives, financial situation and needs’. This means that consumers should be unlikely to suffer harm as a result of using the product.

Consumers who suffer harm include those who use BNPL products to make impulsive purchases (and who are then less able to afford necessities like food, rent or utilities), and those who consistently fail to make their BNPL payments (and who therefore incur multiple fees).

The reasonable steps BNPL providers could take to avoid these consumers could include the (greater) use of up-front credit assessments. This would not only filter out customers with poor credit histories, but by creating a small friction in the sales process would also help to filter out those who are most impulsive. On-going tracking could then identify any problematic customer behaviour that had slipped through the gaps.

To further reduce the risk of consumer harm BNPL products could also cap the fees they charge. Or they could limit the use of BNPL for small transactions (for which the fixed dollar fees are likely to be proportionately larger).

More targeted promotion

The DDO rules also require that the ‘choice architectures’ of BNPL products be consistent with the target market and that they should 'consider consumer vulnerabilities, and how those vulnerabilities may increase the risk that consumers are sold products that do not meet their objectives, financial situation and needs, and will lead to poor consumer outcomes.' Arguably some BNPL products currently take advantage of a number of these vulnerabilities – fostering consumers' short-termism and impulsivity.

To help overcome this, warnings could be made more prominent in the sales process, better drawing consumers’ attention to the risks associated with the use of the product, and to the fact that their circumstances have (largely) not been considered in offering the BNPL product to them.

And when consumers visit a retailer, the fact that BNPL facilities are available could be made less prominent, perhaps by limiting the size and placement of signage, and the terms used in its messaging. While customers who are ‘broke AF’ might be expected to be outside the target market, those with short-term cashflow management issues might not be. The signage would be less catchy, but more appropriate.

In particular, the use of the word ‘free’ could be limited to circumstances in which retailers' pricing is standardised, transparent and non-negotiable. In other cases it is possible that BNPL customers are missing out on the preferred pricing that retailers are surreptitiously offering other customers. (Surreptitiously, because retailers are contractually required by BNPL providers not to offer discounts – which is another topic in itself).

And when making a purchase, greater prominence could be given to the total purchase price, to the total outstanding balance, or to the total purchase price including fees, rather than to the individual instalments themselves. These individual instalments can make the total obligations seem smaller, just as how an annual cost of $700 seems smaller when it’s expressed as only a couple of dollars per day.

The impact

Overall, the result of these changes should mean that BNPL products are more defensible from a consumer perspective, and therefore more sustainable. However, the impact on different BNPL providers is likely to vary substantially. Some already undertake credit assessments, some do not. Some already limit the use of their products by consumers who are in arrears.

And the approach taken by different BNPL providers could vary. Some could take an adversarial approach, perhaps daring ASIC to apply its new Product Intervention Powers on the basis that ASIC is a toothless tiger. Personally, unless I've done a very close dental assessment, I prefer not to fight a tiger if I can.

My suggestion would be to find ways for BNPL providers to be smart about how the requirements are applied in order to both mitigate the risk of consumer harm and regulatory action on the one hand, and the risk of sub-optimal commercial outcomes on the other. When it comes to managing consumers' biases and vulnerabilities, there's often more than one way to skin a cat. Good consumer outcomes don’t have to be unprofitable.