The rate of automotive leasing in the United States will soon be reaching its highest level in more than a decade. Now more than one out of every four new vehicles will be rented rather than be bought by consumers. A pronounced shift is taking place which resembles a return to the late 1990s, a time when automakers and leasing companies offered incredibly cheap deals to move inventory off dealer lots.
However, this wave of leasing is different in many ways. Traditionally, luxury automobiles have been leased more often than they have been purchased. Today, leasing rates are rising across a wide variety of vehicle segments as consumers continue to be focused on monthly payments as well as driven towards the latest technology. As the automobile begins to evolve from a form of transportation to a high tech experience, consumers begin to flock towards the latest and greatest tech features. The lease offers the ability to experience the latest technology while keeping the monthly payment within reach.
While current leasing popularity is expected to continue, its success creates some challenges for Lenders. Growing lease returns are combining with more trade-ins from higher new car sales to increase used car inventories. This surge in inventory growth will put downward pressure on used car prices which in turn will lower residuals and raise monthly lease payments. Recent industry forecasts project used car prices dropping by 2.5% annually and reaching a reduction of 7.5% by 2018.
When we reflect back to the late 1990’s, auto leasing more than tripled from 780 thousand vehicles per year to 3 million vehicles per year. Auto manufacturers and captive finance companies also began to inflate residual values to offer consumers even lower monthly payments. The logic was that they could incorporate marketing expenses into the sales prices of lease vehicles and realize a profit by making money on additional services, such as insurance products, parts, accessories and service.
The lack of foresight throughout the industry and an affinity for short-term leases greatly increased portfolio risk, but it wasn’t until large quantities of off-lease vehicles hit the used market in the late 1990s that finance companies began to feel the pain caused by adjusting residual values.
With values well below the residual values set when the cars were new, bank and captive finance companies were left with portfolios of used vehicles worth substantially less than their forecasted residual values. It is estimated the overall hit to lenders was $11 billion in 2000 and an additional $13 billion in 2001. While many lenders have likely learned from this experience, we believe that many lenders are at risk for financial losses due to over-valued residuals.
With the wave of off-lease vehicles approaching, Lenders need to prepare. By implementing a well designed strategy which includes accurate forecasting methods, targeted lease remarketing and an analytically driven asset disposal strategy, Lenders can take proactive measures to mitigate against financial losses and preserve profits.
The first step in preserving profits is ensuring that residual forecasting methods have effectively factored in the forthcoming reduction of used vehicle prices. For some Lenders, this is done at lease origination and never addressed thereafter. We believe timely reforecasting is a necessary step for lease lifecycle management. The second step, is enhancing lease remarketing process. This approach is aimed at recovering profit that may have been lost due to over-forecasting residual values. Implementing a one-to-one remarketing strategy, Lenders can identify the most likely buyers at the right time, with the optimal price and preferred channel with their offer. These are well established direct marketing practices that leverage consumer insights generated from available data and effective analytics. The third step in the process needs to support Asset Disposal. For vehicles that are surrendered to the Lender, a data driven approach to setting online and physical auction prices can make a significant difference in selling a vehicle upstream prior to its fast depreciation when it reaches the physical auction.
Download your copy of the Lease Remarketing and Asset Disposal Whitepaper which outlines key strategies to address the growth in the Auto Leasing marketing. These strategies will help Lenders take action and maintain their profitability.