Shares in Sezzle Inc., the Minneapolis-based electronic payments company, fell sharply this week after a California regulator said the company's online-payment system amounted to a loan scheme that should be subject to state law.
Sezzle shares lost one-third of their value in trading on Thursday and Friday on the Australia Stock Exchange, where the firm went public last year. Investors reacted to the company's disclosure Thursday in Australia that its application for a license under the California Financing Law was denied earlier in the week.
The California Department of Business Oversight said it denied the application after determining Sezzle's buy-now-pay-later service differs from the installment-payment plans that are common among retailers. Instead, it said the system is effectively a short-term loan that "may be worse for consumers than comparable, regulated options."
The agency subsequently denied the license because it said Sezzle engaged "in the business of a finance lender without obtaining a license." Sezzle has 15 days to respond to the decision.
The decision, along with a subsequent statement involving another payments company, appear to be an effort by the California agency to apply greater regulatory oversight on the fast-growing alternative payments business. But in November, the same agency granted a license to one of Sezzle's biggest competitors in the buy-now-pay-later business, Afterpay Inc. of Australia.
A spokesman for the agency said Friday it did not have an immediate comment. The agency's top leader, Manuel Alvarez, is a former chief counsel at Affirm, a San Francisco-based company whose services include an online-payments system.
Sezzle executives declined to comment on Friday, citing the ongoing regulatory process. But in a statement to securities regulators and investors in Australia earlier in the day, the company said, "Sezzle's position is that it does not operate as a lender but under a different financing model as a sales finance company and does not make loans."
Sezzle applied for a license under the California Financing Law in September, saying that it eventually aims to provide direct financing to consumers. Currently, a shopper who pays for an online purchase using Sezzle triggers a process in which the merchant fulfills the order while assigning the sales contract to Sezzle.
Such a step is permissible under California law. But the California agency, after reviewing Sezzle's application, determined that the company's relationship with merchants is extensive enough that the transactions should be considered loans to the merchants' shoppers. While noting that no California court has ruled on the issue, the agency cited several principles to buttress its decision, including that Sezzle and merchants don't fully disclose Sezzle's role and the terms of a transaction to shoppers.
The agency issued a separate statement warning that another provider of deferred-payment services to online shoppers, which it did not name, may also be in violation of the state's finance law.
In that statement, the agency said such payment services may be deemed loans under several circumstances, including when "the financing transaction is not otherwise regulated."
The "buy now, pay later" structure of Sezzle's payment system is more common outside the United States. Afterpay popularized it in Australia and a Swedish company, Klarna, provides it in Europe. Both firms are racing with Sezzle to sign up retailers in the United States.
Under such systems, an online shopper chooses Sezzle or one of its competitors instead of a credit card at checkout. The customer pays 25% of the purchase, with the payments firm paying the other 75% to the merchant. The payments firm then sets up a no-interest, six-week repayment plan with the shopper. The payments firm is paid a percentage of the value of the transaction from the merchant, similar to how credit card firms make revenue. The payments firms charge additional fees to the shoppers if they miss payments.