Square (SQ -1.43%) is jumping into the buy now, pay later trend with the acquisition of Afterpay (APT), the world leader for that payment service. Combining the two companies will enable Square to capitalize on the growing trend and supercharge Afterpay's growth in the U.S., U.K., and other countries it operates in.
A new piece of the Cash App ecosystem
Square comes to the table with 70 million Cash App users that it plans to introduce to Afterpay. "Afterpay will expand Cash App's growing product offering, enable customers to manage their repayments, and help customers discover new merchants," the company wrote in a press release announcing the $29 billion deal.
Square is particularly adept at getting its Cash App users to try its new services by offering attractive incentives. For example, it could integrate Afterpay's buy now, pay later service into its Cash Card, allowing shoppers to use Afterpay at practically any merchant. Many BNPL services have taken that approach, including Afterpay, instead of trying to integrate with merchants' checkout flow directly.
Square could also promote Afterpay through Boosts, giving customers financial incentives to try the service. It can make up for the self-promotion with higher-value and more frequent purchases.
Additionally, Square can make better lending decisions based on what it knows about its customers. If a customer has their direct deposit set up with Cash App and receives a paycheck twice a month, Square can offer a loan they know the user will most likely be able to pay back under the provided terms.
Square could've built its own buy now, pay later service from scratch, but acquiring Afterpay accelerates its plans and brings in an additional 16 million customers.
Bringing Afterpay to more merchants
Afterpay works with 100,000 merchants already, but Square boasts "millions." Moreover, most of Square's sellers are brick-and-mortar retailers that have little exposure to the BNPL trend. That gives Square a big advantage as competitors in the space are trying to move into physical retail. And using a brand like Afterpay, which has built trust among both merchants and customers, will help with adoption.
What's more, Afterpay should help Square with bringing more online and omnichannel merchants on board. Its omnichannel efforts accelerated during the pandemic, and adding Afterpay is another step toward winning the checkout button on merchant websites. BNPL can serve as an on-ramp to the full Square Seller ecosystem.
Connecting the two ecosystems
Ultimately, Square's goal is to connect both its Seller and Cash App ecosystems, and Afterpay is one way it can do that. If a seller offers BNPL with Afterpay in their store (either physical or online), Square can service that loan in the Cash App. Likewise, if a consumer uses Afterpay in Cash App, Square can push that consumer toward its other merchants that accept Afterpay.
Connecting the two ecosystems provides new opportunities to leverage the existing customer base on one ecosystem to grow the other. For example, being prompted by a merchant to use Afterpay could get a consumer to download and use Cash App for the first time.
Increasing these connections will allow Square to grow faster than if it operated siloed products. And while Square is paying a hefty price to take control of Afterpay, management sees the acquisition producing positive gross profit in its first year with a modest decrease in its EBITDA margin in the same period. If Square executes, increasing engagement among Cash App users and sellers while producing stronger growth in both user bases, the acquisition will produce great long-term results for investors in the fintech stock.