Money for the Dealby

Strada IQJanuary 2013

The Evolution of Automotive Financial Services in Canada

The Start

At some point folks required money to acquire

automobiles.

Alfred P. Sloan of GM recognized that banks were

reticent to make funds available to acquire this “new

invention” (automobile).

To facilitate acquiring automobiles General Motors

Acceptance Corporation (GMAC) was created to enable time payments.

The rest is history.

Capital Intensive

At every level the auto industry is capital intensive.

It has not changed in decades, the industry

requires prodigious amounts of capital to operate.

At the retail level the dealer requires capital to operate, and the customer requires capital to acquire a vehicle.

Lets focus on the customer and the his capital needs to

acquire a vehicle.

History

Back in the day it was easy and simple to finance

vehicles.

Most dealers would deal with a “captive” financial service provider. The terms were 24 or 36 months and implied an appreciable down payment

or equity in the trade in.

It was implied that the customer had “equity” in the vehicle that was traded, and more important in the vehicle

that was acquired.

Simple Deals

The deals were simple, compared to today?

Think for a moment: no calculators, and no

computers, it was pen and paper with simplified

calculations.

If the customer could not immediately comprehend the

deal depicted on paper it was challenging to close a

transaction.

Leasing

In the early days leasing facilitated the lack of equity, or requiring an appreciable

down payment.

Companies that used numerous vehicles to

conduct business preferred leasing. The old “leasing is for companies/businesses”.

In later years leasing made vehicles more affordable.

Major reason leasing became so popular in

Canada, when the Canadian dollar was low and prices of

vehicles were high.

2008 / 2009

With the strengthening of the Canadian dollar in late 2007, followed by the financial and automotive meltdown in 2008

and 2009.

The money tree was shaken, buffeted, and the established levels of comfort evaporated

literally overnight.

Prices are now too high, money is scarce, the

unthinkable is developing with manufacturers going out

of business.

Wow the landscape has shifted to a New Reality.

The Unknown

In 2009 it becomes challenging to have potential

customers approved for credit – really?

Money is scarcer – for certain manufacturers not

others.

The unknown engenders a sense of higher risk.

Canadian banks have cubic money to lend, and are

anxious to get a bigger share of the automotive financial

services business.

Business

In the meantime everyone is still in business, selling,

leasing, financing vehicles.

From the global financial crisis, Canada barely gets a

dent and keeps on going.

Obvious that everyone is more cautious – just in case.

Everyone has done their own risk analysis – just in case.

Risk

At the conclusion of a comprehensive risk analysis.

Canadian banks offer inexpensive money to Canadian consumers.

Canadian consumers are bullish and use the money

from the banks.

Canadian real estate prices go through the roof.

Canadian auto manufacturers head for cover pull out of leasing

(most) and shift the risk to the Canadian consumer.

Automotive Finance Risk

The auto industry (with a few exceptions) embarked on a mission to shift the “value

risk” of a vehicle to the customer.

Lets take the “residual value risk” off our books and

transfer it to the customer.

We have done well leasing vehicles for several years and assuming the residual

risk.

Lets shift all of this to the customer – not a big deal –

or is it?

Magic Number

The ideal number for retail finance or lease is a 36

month term.

The industry works well, is efficient on a 36 month basis.

In Canada leasing complemented the 36 month

cycle, while improving affordability.

Starting in 2009…how manufacturers, dealers, customers positioned

themselves in relation to the 36 month term influenced the

business.

Affordability

The “brave thinkers” of the day who shifted the value

risk. The customer faced an affordability issue.

Easy…lengthen the term of the loan.

Increase the cash incentives.

Shifting the emphasis from lease to retail finance.

From J.D. Power we know that the average monthly

payment for a finance sale is $520/month for an average

selling price of $30,000.

Term

Longer term loans starting in 2008/2009 are require to offset

the lack of leasing.

To do business in the 36 month time frame.

The loan terms get even longer to accommodate the “negative”

equity.

Promoting 0% financing, longer terms, merely perpetuates the

spiral of negative equity.

Graph from J.D. Power November 2012

Negative Equity

The required longer finance terms to improve affordability

exacerbate the spiral of negative equity.

The dealer, manufacturer, financial services, provide

various levers to transfer the negative equity from one

vehicle to the next.

While the customer focuses on the monthly payment,

assumes the responsibility and risk.

Cycle

The cycle of negative equity becomes a component in

perpetuating the “optics” of the Canadian consumer

enduring a high debt level.

In many instances the debt is not supported by the collateral (vehicle).

Customer finances a new vehicle and a portion of the

vehicle traded in to continue.

Imagine if “someone” tightens auto loans similar to

mortgages…Ouch!!!

Leasing

The manufacturers that remained in leasing in

2008/2009, and continued to assume the residual risk.

Are they in a better position, are the customers in a better

position?

What do you think?

Look at the sales success of MerBimAu during the past

few years, and the ever increasing sales of their

Certified Pre Owned.

MerBimAu=Mercedes, BMW, Audi

Comparison

FINANCE

Trend = longer term Farther from 36

Customer assumes value risk Customer must deal with negative equity

Carry over negative equity Monthly payment higher or term longer

Cash flow + Risk No insurance for negative equity

Financial service has a lien on vehicle Customer must roll over negative equity

LEASE

Trend = stable terms Closer to 36

Manufacturer assumes value risk No negative equity for customer

Simply start a new lease Monthly payment stable/term stable

Cash flow + wear and tear Customer can buy wear and tear insurance

Financial service owns vehicle Customer starts a new lease

Technology in the Business Office

Where would the industry be without technology in the business office to “make

payments fit”?

Reflect on this for a moment!

There are a myriad of possibilities, strategies,

tactics that are deployed to “make payments fit”.

Factor in the various “peace of mind” products that are

offered in the business office.

Financial Products

Manufacturers that offered the full spectrum of financial

products generated an appreciable competitive

advantage in the Canadian market.

MerBimAu is the most obvious example of using

financial products and remarketing to control, and create barriers of entry to a

market segment.

The Detroit 3 are an example of relinquishing financial products and providing opportunities to others.