Power of Payments Ep. 15: ‘Regulators don’t hate BNPL — they just want more consumer protection’: Citizens Pay’s Gaurav Sethi

Welcome back to the Power of Payments podcast. I’m your host Ismail Umar, and in today’s episode, I’m joined by Gaurav Sethi, chief strategy officer at Citizens Pay.

Citizens Pay is a bank-owned BNPL offering from Citizens Bank, one of the oldest financial institutions in the US, which provides retail and commercial banking products and services to individuals, small businesses, and large corporations.

In our conversation, Gaurav talks about how being a bank-owned BNPL provider differentiates Citizens Pay from other major players in the space like Klarna and Affirm, how the current macroeconomic climate is impacting Citizens Pay as well as other BNPL firms, and the recent report from the CFPB and what increased regulation would look like for BNPL lenders.

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The following excerpts were edited for clarity.

I have been at Citizens Bank for about two-and-a-half years, and I lead the product and strategy for Citizens Pay, which is our Buy Now, Pay Later business. I'm a 22-year veteran of the payments and financial services industry – most recently, prior to this role, I was with JPMorgan Chase, and my last role was as the head of lending innovation for the card business at Chase, where our team was responsible for innovation, creating new lending products, and installment products were some of the things that we did in the last role. And that was sort of the genesis of the move to Citizens. As I looked at the payments landscape and borrowing habits, and how that was evolving, consumers definitely were shifting their behavior, from credit cards to more of these transparent installment-type products, and Citizens was very keen to build out and grow their installments and point-of-sale business. So the puck was moving in that direction from a consumer behavior standpoint, and the bank had a head start in that direction. So that was kind of the motivation for me to join Citizens.

How does being a bank-owned BNPL offering differentiate Citizens Pay from other major players in the sector like Klarna and Affirm, both in terms of how it operates and what it offers to consumers?

Good question. Citizens Pay is a unique solution that the bank has built. It's an omnichannel solution that provides a digital installment offer at checkout with all of our retail partners. So that part is very consistent with what you might have seen across other competitors in the Buy Now, Pay Later space. What is differentiated between how we do things versus a typical fintech BNPL provider are a couple of things. One is, we take a very different approach to our solution. We cater to more sophisticated needs of larger retailers, who are looking to build either new product categories, like subscription and bundles, or are looking for something beyond a widget at checkout. So, what we've seen and heard from our retail partners and just retailers in general is, while a BNPL checkout option is helpful, it typically sees a sort of tender shift between one payment method versus another. And while there is some incremental lift, it’s not as much as if you were building an omnichannel solution that looked at the entire customer journey, not just at checkout. So, pre-purchase behavior, product comparison shopping pages, pre-approval marketing, there are all of these components before a customer actually decides what to buy and what to use to pay for that. And that is the approach we take. We build all these different product categories, and embed our solution across the entire consumer journey, not just at checkout. So that’s one fundamental difference.

The other is, our product is an installment loan within a line of credit. And what that does is, it allows consumers to use the same account to make multiple purchases with our clients. So, if you wanted to shop at merchant X, and you made the first purchase at merchant X, what we do is, we give you a line of credit with that merchant. The first purchase has one installment – let's say it's for $100 a month. The next time you want to shop at that same merchant, you don’t have to apply for it or get a new loan; you are able to use the same product and get the second thing and the third thing within the same account, and it's single billing, so that $100 a month might become $120 after you make the second purchase, etc. And that's appealing for consumers, because it's much easier, but also for merchants, because merchants are able to build loyalty, build repeat purchase through this kind of product, versus trying to sell different loans every time a customer comes in and shops at their store.

The third thing I would say to address your differentiation question is, as a bank, we've spent a lot of time and have a lot of experience through various economic cycles to be very judicious about our underwriting, and really focus on responsible borrowing. And what that means is, we are always looking for a consumer’s ability to repay any debt. We report that debt to the bureaus so we can allow other lenders to also be responsible. And that's one of the things that I think the regulators are calling out as inconsistent with some of the other BNPL fintech providers.

Let's talk about the current macroeconomic climate. We all know that the last few months have been tough for fintech firms in general, and BNPL firms in particular seem to be struggling a bit right now. How has this period been for Citizens Pay, and how does it plan to get through it?

Yeah, great question. I won't necessarily speak to some of the difficulties, because they might be very unique to different individual lenders. But more broadly speaking, what we're seeing in the marketplace is a couple of key components. One is, as inflation rises and as interest rates rise, the cost of funds for fintech lenders and actually all lenders rises, but maybe disproportionately more for fintech lenders. And the cost of funds is obviously a key component of the economic model for BNPL or any lending product. So, the cost structure starts to go up, and it goes up disproportionately for fintech firms, whereas for a bank-owned BNPL like Citizens Pay, we have our own balance sheet, and we have a deposit base, so we are able to withstand that a lot better. So that's one thing. The other is, again, for the same economic reasons, and especially if and when we start to get into a deeper recession, you start to see losses climb. And that also impacts fintech lenders a little bit more because of the way that they underwrite versus the way we underwrite at banks. Having more data and information through multiple economic cycles in our credit models, looking at consumer ability to pay, looking at credit bureaus to make those decisions, gives bank-owned BNPL an advantage to ensure that it can minimize the credit losses. So that's another piece that you might have seen tick up quite a bit over the last couple of quarters with some of the fintech lenders. So you add all of those components, where the demand is still there, but the cost structure is changing between cost of funds and cost of credit, etc., and that becomes a challenge for fintech lenders more so than for a bank-owned BNPL.

Regulation has been a big topic in the space, especially since the CFPB’s report came out, which suggested that stricter regulation is coming for BNPL. I’d like to hear your thoughts on how that’s going to impact the BNPL sector, fintech firms, and also Citizens Pay’s product.

Honestly, the report from the CFPB was, I feel, pretty unbiased in terms of BNPL. They didn't inherently call BNPL bad. What they called out was that some of the things within the pay-in-four type products that are being offered by fintech lenders aren't necessarily consistent with how other lending products work, particularly credit cards. And as a result, it doesn't provide as much consumer protection as the other products do. We, as a regulated bank, looked at all of the things that the CFPB called out in the report. And we feel very strong around the components about responsible borrowing, how we are looking at the ability to repay as a key component of making credit decisions, which is one of the things that they called out. We also are adhering to all of the compliance around disclosures, which again is something that they called out as inconsistent with fintech lenders. The cost of borrowing is sometimes inconsistent. The late fees associated with the small dollar lending that’s happening were also called out as disproportionate to the amount of loan that fintech lenders are providing. And so, all of those things, when we compare them to how Citizens Pay operates, we feel like we have a very strong and robust compliance infrastructure and are already doing what they've called out as gaps for the fintech lenders. So, I think what's likely going to happen is that the fintech lenders will have to shore up some of these things, in terms of compliance and investing more in the infrastructure, ranging from the frontend application process to make sure that the customer has the ability to repay that debt, to the disclosures around that, to their fee structure. So, it may change the business model, or at least the economics of the pay-in-four product. And like I said, we, as a prolific lender that has been around for a couple of centuries, and even in this BNPL business for about seven years, we are already in a very regulated industry, and are already doing all the things that they've called out. So, we feel pretty strong about that.

Can you walk us through what you think the future will look like for the BNPL sector and for Citizens Pay?

I think there are three legs to the stool of the BNPL sector for next year and beyond. One is consumer behavior. I feel very strongly, based on just historical data over the last few years, that consumers will continue to look for more transparent and budget-friendly, predictable options to make larger purchases. And so, that's going to continue. Then there's the leg around compliance, regulation, etc. And that's going to even the playing field for lenders and give consumers more protection. And so, I think that's going to ramp up a little bit more. And it will have greater impacts for fintech lenders versus bank-owned BNPL. And then you'll have the lenders themselves, and I see more competition, but also more consolidation as other banks and issuers enter the fray. Not every BNPL will continue to go it alone at this – with all the different pressures, there might be some consolidation that happens; the banks are going to step in more and more because of some inherent advantages that they have. And so, there's going to be more competition, but the dimension of that competition is going to change. But by and large, I think the pie is going to continue to grow – BNPL is only in the single digits with regards to total payments. And so, there's a lot of runway – the pie is going to get a lot bigger, which inherently is going to attract more and more players.

At Citizens, we’re going to continue down our more differentiated path and invest in our BNPL product. Our differentiated strategy is going to be around more sophisticated product constructs for more sophisticated and larger retailers that are looking for something beyond just another payment tender type at checkout. And so, what you’ll likely see is, we’ll concentrate on fewer, larger retailers that have complex needs that we are inherently in a better position to solve. So we won't go out similar to other fintech lenders and try to grab 10,000 or 50,000 retail partners – we're probably going to be in more of the dozen or two-dozen type of scale. But those are going to be of significant material volume, in terms of the needs that are being solved for those larger retailers. We are going to continue down the path of the verticals that we have chosen, based on where we see our differentiated advantage. So we will continue to invest in the electronics sector, we're going to invest more in home improvement, as well as the healthcare, medical and dental verticals. So those are some of the primary verticals that we’re concentrating on, because we see a unique value proposition and a differentiated advantage that we want to leverage in those verticals.

So just to kind of recap, I feel like fundamentally, BNPL is a very strong value proposition for consumers, and that will continue to grow. Inherently, regulators don’t view BNPL as bad – it’s just making sure there’s consumer protection and an even playing field amongst lenders. And Citizens Pay, specifically, is already uniquely positioned with our differentiated product to take advantage of all of those things to continue to grow. So I feel like overall, we are very well-positioned, bank-owned BNPL is well-positioned as more and more banks enter the fray, and consumers are going to get the advantage of more competition but more transparent budget-friendly options to make payments. So overall, while we might see some sort of negative press around BNPL, I’m still very bullish about it.