By Jared Oundo
An inherent risk in leasing (from the lessors’ standpoint) is that origination will generally peak at the top of the economic cycle, meaning that peak off-lease volumes will come back in a less favorable retail environment — and maybe even during a recession. Hence the importance of never aggressively subventing leases at the top of the cycle and of building reserves throughout the cycle.
But the fact that maximum lease returns may occur in a weak retail environment could be viewed as a positive if it helps moderate the new vehicle sales cycle. New vehicle sales have always been subject to large peak-to-trough swings (typically 25 percent to 33 percent — and during the Great Recession 42 percent), but a high volume of off-lease returns could reduce the magnitude of those swings.
End-of-term customers are forced back into the market regardless of economic conditions. If they are satisfied customers whose financial condition has not materially changed (and for many, it won’t have changed since lessees are skewed to high-income households), they will lease another new vehicle. Had they been in a retail finance contract, they would have been more likely to remain on the sidelines until the overall economic environment improved.
Securing these additional new vehicle sales, as well as supporting the dealer network (and themselves) with potential CPO sales, should be a partial offset to some of the pain of end-of-term residual losses experienced by lessors.
Returning lessees will support new vehicle sales
Pent-up demand was the principal driver of new vehicle sales increases in the initial stages of this recovery. But, by definition, that is not a long-term, sustainable force.
We are now beginning to transition to a market supported by returning lessees, and not just any type of lessee — a satisfied one. From a dealer’s perspective, that’s pretty much automotive retailing’s utopia — happy customers returning on a regular cycle.
The current bifurcation in the retail finance market — high lease penetration rates as well as a lengthening in retail contract maturities — could be a good thing if dealers and salespeople correctly put the right customer into the right finance option. The higher lease penetration rate will help offset some of the lengthening in the trade cycle that naturally occurs with longer-term loans.
That said, the sheer volume of new lease originations (now approaching 4 million per year) could pose a challenge to remarketers in future years.
The key will be the level of subvention entailed in the original lease. When not overly subvented at origination, a lease return is viewed by the lessor and grounding dealer as an opportunity to sell a satisfied customer another car. But if overly subvented, that lease return can start a downward spiral in both residual values and customer satisfaction.