Lease Incentives Getting Worrisome

April 22, 2016

AutoRemarketing reports on a worrying trend in the area of new car incentives.

Measured against actual transaction price, incentive spending has reached 9.0 percent of vehicle price. Back in 2012, it was at a recent low of 7.9 percent and has climbed every year since.

To provide historical perspective, back to the mid- to late-2000s ratios were well above 9 percent (9.7 percent in 2005 and 2008; 9.4 percent in 2009).

NADA Used Car Guide shared J.D. Power data showing that incentives — measured as a percentage of MSRP — have climbed from 8.3 percent in 2011 to 9.1 percent for 2015.

Year-to-date, they’re at 9.6 percent, up from 8.7 percent through the same period of last year.

Incentives have reached a point where they’re starting to become something we should think about as far as the health of the industry.

Among all types of incentives, NADA Used Car Guide — this time citing Autodata Corp. — said average incentive spend per unit sold in 2015 was $2,900.

That’s a figure that has risen in each of the last three years and continues to climb in 2016, having reached $3,000 year-to-date.

But the average incentive per new car leased has risen to $4,900. With close to one out of three new cars sales being leased, the magnitude of incentives on leased cars are definitely helping to drive new-vehicle sales.

So how risky are leasing incentives compared to other incentive types in terms of impact down the road?

Jonathan Banks, Executive Automotive Analyst for the NADA Used Car Guide notes, “It appears that the major way they’re subvening the lease is a cap-cost reduction. So it’s kind of like a cash incentive. Now, the reason I’m OK with that versus a residual enhancement is because at least they’re taking the hit now.

“That cap-cost reduction, we should already see that pass through in the used market. But it gets a little bit more difficult, I think, for the customer to determine the relationship between a lease and a used-vehicle price,” he added.

“It’s hard to say, but the rule of thumb was that cash is the worst because it’s very transparent, and that lease has the least impact because it’s a little more difficult to figure out, but I believe you pay the piper one or the other,” Banks went on to say.

Think about the return rates for vehicles coming back off-lease to the captives, Banks said.

Based on his discussions with captives, he estimates that, currently, between 30 percent and 50 percent hit the auction, with the remainder being remarketed in other channels. For some, it’s even lower.

“If you subvene residuals, and they’re well above market … you can expect that retention rates by the customer or the dealer or upstream to decline, and then more vehicles are going through auction,” Banks said. “OK, what’s the big deal? Well, now you’re kind of flooding the market a little bit in a way that isn’t healthy.

“It’s not a bad thing in that it just makes prices decline,” he continued. “At least if they take the hit now, I think it’s better. The subvented is what we went through back in the late ’90s, and that’s when we saw that 12-percent reduction in used-vehicle prices, and we don’t want to do that (again).”