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Leases Slash Automaker Profits

October 26, 2000

Automakers are losing money on vehicle leases and starting to offer less attractive leasing plans, while at the same time promoting discounts and cut-rate financing on vehicles to purchase, reports Mark Truby in the Oct. 26 edition of the Detroit News.

Big residual losses are slashing profits and causing carmakers and banks to rethink the practice of doling out sweet lease deals to keep cars and trucks flowing out of the showroom.

With an flood of vehicles about to come off leases, the auto industry is looking at $7 billion to $11 billion in reduced profits next year, estimates Art Spinella, an analyst at CNW Marketing/Research Inc. in Bandon, Ore.

The pain is felt beyond the auto industry. Banks with major auto lending portfolios such as Chase Manhattan and Bank One have written down millions of dollars on vehicle leases because of lagging residual values -- the projected resale value of a used vehicle.

The leasing woes are another warning that the auto industry is struggling to maintain the torrid sales pace of recent years. Though the industry is apparently headed for record U.S. sales of more than 17 million units this year, companies are wooing customers with big discounts and cut-rate financing to maintain that pace.

Since coming into vogue in the past decade, leasing has been a winning formula for the auto industry -- a financing arrangement that allows buyers to get more car or truck for their monthly payment.

The low payments draw consumer traffic into showrooms and give dealers a good chance to sell customers another car when the lease expires. Last year, more than 5.4 million customers leased vehicles. A total of 16.9 million new cars and trucks were sold in the United States last year.

While leasing helped boost industry sales in the mid-to-late 1990s, automakers didn't anticipate how much the vehicles would plummet in value over the term of the lease.

Before a car is leased, banks or captive finance companies such as Ford Motor Credit or GMAC must estimate how much it will be worth at the end of the lease. In their quest to close deals, analysts say, the companies' estimates were far too rosy.

"They have finally realized there has been an over-estimation of residual values," Spinella said.

DaimlerChrysler, Ford Motor Co. and General Motors Corp. have all become more conservative in their leasing practices. Debis, the financial services arm of DaimlerChrysler, is planning a major overhaul of its leasing strategy.

Debis is looking to cut the percentage of new cars and trucks sold through leases. Ford, which has seen the value of used Explorer SUVs tumble, is tightening its leasing practices as well. In its latest pricing schedule, the California-based Automotive Lease Guide (ALG) set the Explorer's projected residual value -- the amount it's expected to bring after being leased -- down 6 percent from last year, cutting $1,850 off the price when an Explorer comes off lease.

Since 1997, the ALG said, residual values have dropped about 15 percent on full-size SUVs and 14 percent on compact SUVs such as the Explorer.

GM is offering a plethora of rebates and bargain finance rates to soften the blow to dealers and customers. And to deal with a glut of cars and trucks coming off leases, GM has established an Internet auction site called SmartAuction. Dealers can go on the site and bid on used vehicles to resell on their lots.

For Mark Truby's story, visit http://detnews.com/2000/autos/0010/26/a01-139435.htm at the Detroit News Website.

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