Matrix bought $18.75 million in Afterpay shares at $6.51 each and one of its general partners, Dana Stalder, is joining the Afterpay board. Matrix will help Afterpay with possible expansion in the United States in return for 10 per cent of future growth of its US subsidiary in excess of $US50 million.

Afterpay looks and feels like the sort of disruptive payments application that will threaten the hold the major banks have over Australian retailers and their customers.

Appealing to Millennials

In keeping with other disrupters it does not fit easily into the usual regulatory buckets. It is a buy now, pay later payments platform that gets paid a merchants fee by retailers for each transaction. When a customer buys something Afterpay pays for the product and then withdraws the amount from the customer's bank account in four equal instalments over a 56-day period.

Strictly speaking the company does not need to be regulated by the Australian Prudential Regulation Authority because it is not a non-bank lender, and nor does it need to be regulated by the Australian Securities and Investments Commission because it does not supply credit.

But to maintain the highest level of compliance Afterpay voluntarily took out a lending licence with ASIC.

The company's seductive slogan – "There's nothing to pay" – has pulled in hundreds of thousands of Millennials. In its early days, the core demographic using the company's application was 18- to 25-year-old women shopping for fashion online. Today, the core demographic is still dominated by females but the age range is now 25 to 34 years.


Products available have broadened from women's fashion to include general merchandise and homewares. Also, the company is expanding into travel in partnership with Jetstar.

The company's success has aroused criticism from some because it has made it to too easy for young people to pay for things they cannot afford. But the feedback from customers to Afterpay is that the payments system is used as a budgeting tool. It is said to be a valuable way of buying things using a regular repayments schedule.

Data collected by the company from purchases made so far shows the average amount spent on a purchase is $150 and the average time for repayment is 30 days. More importantly, about 80 per cent of Afterpay customers link their account to a debit card.

Loyal customers

The company's internal data shows that it has developed a loyal customer base. The average customer has used the Afterpay payments platform about 10 times.

Chris Prunty, principal and portfolio manager at QVG Capital, says his own research has backed up the company's claims. Afterpay is the single biggest holding in the small cap fund managed by QVG. He says the company's management has executed brilliantly.

"The growth in their customer base is the most impressive I have seen in my time in the market," he says.


Prunty says the company is benefiting from the network effect that comes with the growth in the number of merchants joining the Afterpay payments platform. "The more customers who use it and the more merchants who accept it the greater the growth. It becomes a virtuous circle."

Prunty says Afterpay initially focused on e-commerce by Millennials and that delivered strong growth. That has quickly evolved to an in-store offering thanks to the acceptance of its payments platform by major retailers such as David Jones and Myer. The in-store retail market is six to seven times larger than online, which suggests the growth rates experienced so far could be eclipsed.

Afterpay's key metric determining profitability is the net transaction margin, which is the sum of the merchant's fee, less transaction processing costs, transaction financing costs and net transaction losses. The net transaction margin in the first half will be 2.25 per cent of underlying sales.

Dramatic growth

In its two-year life span, Afterpay has proven two things. First, its technology platform, known as the Afterpay system, is scalable. The accompanying graphics show the dramatic growth in customers, merchants and annualised sales, which are now $2 billion.

Second, it has shown that its real-time analysis of transactions has been good at detecting and preventing fraud. The company said on Tuesday its net transaction loss for the first half of this year would be less than 0.8 per cent.

Afterpay has the capacity to turn over its lending book about 11 or 12 times a year given that the average repayment is 30 days. When you combine its equity and its $350 million loan facility from National Australia Bank, Afterpay could finance annualised sales of about $4 billion, or double its current level.

NAB has cottoned on to the power of the Afterpay platform and has partnered with the company to encourage its customers to link up to Afterpay with debit or credit cards.

There is a incentive in the system for Afterpay customers to pay on time. There is a late fee of $10 for the last missed payment and another $7 fee a week later. Also, a customer who does not pay what they owe will have their Afterpay account suspended.