There isn’t a person out there in the automotive retail world who wasn’t ready to say goodbye to 2009. From the closure and wind down of Chrysler and General Motors dealerships to the lack of floorplan and consumer financing, it’s simply been terrible. Adding to this witch’s brew is the government pussyfooting around with the start date for the Red Flags Rule, financial services reform and the general and ubiquitous fear or hatred of anything not superprime. So, has the good ole U.S. of A. run out money? Hardly.
Admittedly, finance companies that are not part of a depository institution (e.g., AmeriCredit, Consumer Portfolio Services, etc.) have had a devil of a time finding liquidity with which to purchase contracts. Those companies that are linked, such as Wells Fargo/Wachovia, Capital One and Regional Acceptance/BB&T, have had plenty of liquidity. However, the bank regulators have made it, shall we say, difficult to distribute additional funds in the lower credit tiers.
So, while the administration talks about making loans, the banking regulators criticize all but the best credit loans, be they commercial or consumer. If you believe the banks were just being difficult because of some internal policy, corner someone of authority over a cocktail and ask him to tell you about a few ridiculous loan classifications made by regulators. Consequently, the credit sources, especially depository institutions, are really between a rock and a hard place.
The news regarding credit lines of any form for “other than prime” auto activity was drying up, but became absolutely arid in the fall of 2008. There are so many culpable parties, it’d be difficult to truly identity who is to blame. First, there were the foolhardy consumers who overbought their ability to pay for very expensive homes. There also were the foolhardy mortgage agents, banks, insurance companies, retirement fund managers, et al, which — with the blessing of the rating agencies — purchased those mortgages by the billions.
Derivatives (bets on how the pools of loans would perform) were then sold by enterprising and very creative investment bankers. Then, to no surprise, mortgage defaults began to occur, bond payments were missed and the house of cards came tumbling down.
Guilt by Association
How much did the subprime and nonprime auto industry have to do with this breakdown? Well, judging by performance statistics for auto-loan portfolios, not very much. Unfortunately, the ones who suffered when credit guidelines tightened were dealerships, auto finance companies and — probably most importantly — auto consumers. So, did something happen to auto portfolio performance during 2008 to merit this punishment? Let’s take a look:
Credit Acceptance: In its most recent Form 10-Q filing with the Securities Exchange Commission, the company reported that its collection percentage changed very little over the last few years. Against an average initial predicted collection percentage of 71.316 percent, the average actual collection percentage as of Sept. 30, 2009, was 71.29 percent. That’s an unfavorable and almost immeasurable variance of 0.021 percent. Additionally, net income expressed as a percentage of total income was 37.8 percent for the period ending Sept. 30, 2009, compared to 21.5 percent for the same period in 2008.
AmeriCredit: This finance company is definitely digging out of its profitability hole and is rebuilding in a prudent and reasonable fashion. According to its Website, the company reported the following for its securitized portfolios:
• Delinquencies of 31–60 days ranged from 8.11 percent to 11.38 percent.
• Delinquencies 61–90 days ranged from 2 percent to 3.09 percent.
• Cumulative net liquidated receivables range from 10.23 percent in a mature portfolio to a high of 14.63 percent in a 2006 portfolio that still has a ways to go before maturing. Now, 14.63 percent might be higher than desired, but it’s only about two percent over what usually happens in good times.
• Profits, liquidity and total equity were also all up compared to 2008.
On a much broader scale, counting all levels of creditworthiness, all categories of auto finance contracts had decreased delinquencies from the third to fourth quarters of 2009, according to the American Bankers Association.
Experian Automotive also published its top 10 list of subprime finance companies in January. Although the names on the list are broadly familiar, it’s important to note that all 10 represent only a 37.6 percent share of the market. What that means is the subprime auto finance market is highly fragmented, with no company outside of those listed having more than a 1.2 percent market share. Let’s hope the finance sources upstream from the finance companies that are actually purchasing auto finance contracts — be they banks, private equity firms, insurance companies, etc. — see the strength of the market and resume funding in our segment.
So, will regulators see the strength of the market as well? It depends. Will regulators realize that the overwhelming majority of consumers with credit scores below 750 still pay their car payments? Will the banks grow a backbone and demand that regulators respond to reason? Or will the only financing for lines of credit and equity that support the subprime and nonprime auto finance industry have to come from private equity sources? Well, there are some positive signs.
The savings rate of the American consumer drastically improved last year. Generally speaking, banks have not been making many new loans, especially for the direct or indirect financing of other-than-prime customers. There is a huge buildup of cash at banks and other financial institutions that needs to be put to work. Although unemployment continues to be high, the general employment picture is expected to improve this year. There is pent-up demand among consumers and dealerships eager to make sales. And as we all know, most consumers require financing to purchase a vehicle.
I often consult with investment bankers, car dealers and finance companies. None of them had much to say during 2009 except for doom and gloom. However, as if by magic, interest is starting to pick up, especially among venture capital and private equity executives with whom I’ve spoken. In fact, even during the last year and a half, they note that the yields on auto paper are quite good, and that performance has been more than acceptable. Translated, that means prices are low and opportunity is high, a successful combination for all concerned.
There also have been some ironies over the last 18 months concerning customers and dealerships. Due to the reduced capacity for subprime finance, many consumers have been forced to change their buying destination. Unfortunately, the used-car departments at franchised dealerships have suffered. Conversely, dealers with a buy-here, pay-here (BHPH) operation and some liquidity have benefited from this new reality.
Many BHPH dealers report seeing more potential customers than usual, and that those customers are the best they’ve ever seen. Credit scores and income are higher, and these customers seem satisfied with the used-car quality being sold in the upper tier of BHPH dealerships. However, to serve this customer
segment, BHPH dealers must be able to carry or sell the paper. So, again, liquidity and sufficient working capital is king.
I can tell you that these BHPH dealers are treating their customers very nicely, hoping to hold on to them as the situation improves. So, to win them back, franchised dealers must put in some effort. Remember, the BHPH experience can be very personal. These customers feel appreciated, and what dealer isn’t interested in repeat sales?
The New Year shows great promise, so let’s continue to remember the lessons learned. Sell good quality vehicles at a fair price. Treat customers well — they are what keeps us in business, right? Stick with reasonable loan-to-value ratios. Above all, be a contributor to success.
Sidebar: Top 10 Subprime Finance Companies
While the names on Experian Automotive’s top 10 subprime lender list are broadly familiar, it’s important to note that they have captured only a combined 37.6 percent of the market. The remainder is highly fragmented, with no company outside of those listed having more than a 1.2 percent share of the market.
1. Wachovia Dealer Services (6.9%)
2. Capital One Auto Finance (5.7%)
3. Toyota Financial Services (5.6%)
4. Chase Auto Finance (5.5%)
5. GMAC Financial Services (3.7%)
6. Ford Motor Credit (3.7%)
7. American Honda Finance (2.9%)
8. Nissan Infiniti Financial Services (2.1%)
9. CitiFinancial Auto (1.5%)
10. Credit Acceptance (1.2%)
Jim Bass is CEO of Auto Acceptance Corp., treasurer of the National Automotive Finance Association and a licensed CPA. He is a frequent speaker at industry events and a leading voice for the subprime, nonprime and BHPH segments. E-mail him at [email protected].