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Why is the Zip Co share price dropping?


Shares in the BNPL operator have slid more than 80% over the last 12 months.

Shares in buy now pay later operator Zip Co Ltd (ASX: Z1P) slid about 10% in early trading after coming out from a trading halt, following its deal on Monday to take over rival Sezzle (ASX: SZL). At the time of writing, Zip Co shares were still down 8.6% at $2.02, while Sezzle was up 2% to $1.81.

Why is the Zip stock price slipping further?

To part fund the deal to acquire its smaller rival, Zip Co is raising nearly $200 million through a share placement and a share purchase plan. Zip has completed an institutional placement at $1.90 each, which translates to a 14% discount to its closing price last week.

It will issue shares to existing shareholders at the same price.

The discounted issue price is the main reason why Zip Co's shares have dropped as trading resumed. The market is also factoring in the equity dilution on account of fresh shares being issued to arrive at the lower price.

The heavy discount in the issue price is likely a reflection of the fact that Zip Co has been among the most shorted shares in the Australian market. It was the fourth most-shorted stock on the ASX, with 11.39% of shares held by short sellers, according to data from last week.

However, the deal is seen as a positive over the medium term given the cost synergies for the combined entity, which could open up a path to profitability sooner.

Better scale

The Zip-Sezzle deal is expected to deliver immediate scale and enhanced growth, particularly in the key US retail market, where Zip already operates through its QuadPay acquisition.

The integration will likely cost about $60 million over 2 years, but is expected to result in between $60 million and $80 million in synergies through lower employee costs and bringing the operations under 1 platform.

Another $40 million to $50 million is expected to be delivered in revenue and margin synergies as the 2 companies combine their large customer base and merchant deals. It will also help Zip streamline capital allocation to the 13 markets it operates in.

Zip underlined the importance of the merger, on Monday reporting a first half loss of $172.8 million, even though revenue for the 6 months to 31 December jumped 89% to $302.2 million. However, its cost of sales more than doubled to $242.2 million and bad debts and expected credit losses also surged across the business.

The deal is the latest sign of the looming consolidation in the BNPL sector because of a confluence of factors, including a ramp up in competition, looming interest rate increases and rising regulatory risks facing the sector.

It comes about a month after US payments giant Block (ASX: SQ2), completed its buyout of BNPL leader Afterpay in a record $39 billion deal. Smaller rivals Latitude Financial and Humm are also looking to combine to create an operation with around 5 million customers.

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