The BNPL industry has caught a lot of attention recently with firms like Afterpay and Affirm commanding nose bleed valuations. What hasn’t got as much attention is BPNL’s lesser-known cousin, Lease to Own (LTO). This industry is geared towards sub/non-prime customers who typically have a credit score below 650 or have no credit score at all. This is about 40% of the US population with an industry TAM of around 50B. Historically the industry was dominated by brick and mortar Rent to Own (RTO) players such as RCII and Aarons, who bought furniture/other items wholesale and then leased those items from their stores. However, over the last few years, retailers have been accepting virtual lease to own as a payment option from providers such as Acima, Progressive Leasing, and Katapult, rendering the previous business model obsolete.
For clarity, we will describe the difference between BNPL and LTO as they are two completely different industries, yet are seen as complements. The BNPL business model works by charging the merchant a cut of the revenue as opposed to charging an interest rate on the amount to the customer. These take rates are typically around 4% or so. The customer then makes 3-5 payments to the BNPL firm within the span of a month or so. The BNPLs typical customers have credit scores above 700. For Lease to Own, the customer is charged a usually exorbitant interest rate and the customer has 12 months to pay the final amount. Typically, the customer can buy the item within 90 days with minimal charges and this is done about twenty to thirty percent of the time. In short, these are completely different industries.
If the customer leases the item completely or does an early buyout, they can obtain ownership of the item. If they cannot continue paying, they can simply return the item and no longer have to pay. LTO is for customers who are unable to pay the full purchase price (within a short duration) for merchandise or who lack the credit to qualify for conventional financing programs.
Being that LTO’s market is people with lower incomes and without access to traditional financing, LTO financing is typically used when mandatory/emergency expenses crop up. These items are generally around five hundred dollars and can be anything from a new fridge to a new bed or a set of tires. The ratios between the categories these items fall in are fairly stable with furniture making up the lion’s share and electronics being a close second.
LTO has typically gotten a bad rap and is seen as a predatory lender- however generally this is the only/best recourse that subprime people have when compared to alternatives. And it is getting better with the newer virtual LTO players who have less costs and fees than brick and mortar player. Shown below are the options financially constrained people have when purchasing an item such as a 700 dollar fridge from three different sources- a virtual LTO, traditional brick and mortar LTO, and a credit card. Virtual LTO’s are almost thirty percent cheaper.
Virtual LTOs are not as bad of a deal when viewed in relation to the alternatives. They are cheaper as they have less employees, no large store footprint, etc and can charge less as a result. We believe the virtual LTO industry will coalesce to two or so players as it did with the brick-and-mortar RCII and Aarons. There is an element of first-mover advantage here and path dependency as the more retailers use a certain LTO provider, the more customers will use that service and so forth. The bigger players can also afford to buy more merchandise from retailers, pay more in advertising, exclusivity etc- bigger begets bigger. Another result is that underwriting will get better the more data there is, thus bad expenses (which hover between 8-10% of revenues) will drop off and the bigger players theoretically will have the lowest bad expense ratios.
A customer can buy effectively from three places, in a store (think big box retailer), online from large enterprises, and also from SMBs. How are LTO players supposed to reach all three? For large enterprise accounts, a sales force is needed for both e-commerce and brick-and-mortar. For SMBs, the convenience of integrating a Lease to Own option will be the determining factor. It currently takes merchants 30 minutes to add players such as Katapult as a payment option to their site.
The players in the LTO space are Acima (acquired by RCII), Progressive Leasing, and Katapult with each having different business models. RCII combines both a virtual LTO (Acima) with its physical store footprint, giving it an advantage on the surface with factors such as distribution and returns. Progressive Leasing, a virtual LTO spun off from Aarons has traditionally focused more on brick-and-mortar lending, they have kiosks at retailers' stores and the employees there inform people that don’t qualify for a larger purchase about LTO. Lastly, there is Katapult who is the smaller upstart exclusively focused on e-commerce players and as a result, saw huge tailwinds last year. PRG and Acima dominate the LTO brick and mortar industry currently with each bringing in 2B and 1B respectively per year in 2020. Traditionally Acima and Progressive have focused on brick-and-mortar space however have recently moved into e-commerce as COVID has shifted the landscape. E-commerce currently makes up about 15% of their total revenue, roughly the same revenue as Katapult. The graph below depicts the above companies and their makeup in 2020. We will be diving into RCII, PRG, and KPLT for the rest of this article.
Acima
RCII acquired Acima in late 2020 with the logic being there would be synergies between their store footprint and Acima’s payment platform. What is interesting is that Aaron’s took the exact opposite approach and spun off their LTO platform into a standalone company (PRG). Aarons originally acquired PRG back in 2014 from a private equity group for 700mm. Taken …