The availability of money and the prime interest rates are two key concerns of lessors as the industry swings into the 1980's. At the first meeting of the Conference of American Renting and Leasing Associations (CARALA) in Phoenix, William Davis of Sumitomo Bank of California and Ronald Ruane of International Bank Credit Corp. explored the shape of tomorrow's money market for lessors.

Davis, whose bank lends money to lessors but does not engage in leasing, said he was a bit gloomy about the money market and concerned about the banks' activity in leasing. "Is money going to be available or not? I guess that's what you want to know," Davis said. "I think it's going to be less and less available. I think the money pool coming to leasing companies is going to be a diminishing thing and I think only the best of lessors with the best of talent, with good portfolios and good management control are going to be able to get money. I just think that's the way it is."

He said he doesn't expect funds to be cut off immediately, but he feels the availability will decrease as more and more banks engage in direct leasing. "In California, we have three ways that banks finance leased automobiles. They do it the way our bank does, which is provide wholesale line money to a professional lease company and say 'here, run your company.' Or they tell dealers and lease companies to set things up and be the broker, we will be the lessor-you write the lease. Now banks are moving in an area where they are a lease company. The customer comes straight to them, and they find out what kind of car he wants. They go out and buy the car very close over invoice and then they turn around and lease it, cutting the dealer out of not only his profit but also out of the action on the other end and keeping the lease company from ever being a part of it."

The most important aspect, however, of the leasing industry according to Davis, is that it takes a lot of money to run a leasing company. "If the leasing industry is to continue as a true leasing industry, then you've got to have money, and lots of money." He estimated that 10 years ago the average leasing company was paying between $2,800 and $3,200 for a standard full-size Ford and today that figure is probably between $6,500 and $7,000, or almost three times as much.

"You don't have to be a mathematical genius to figure out that if  $5-million would run a lease company 10 years ago, it takes $15 million to run it today, that's all," he said. "There's no mystery to that one."

There is yet another factor facing leasing companies, other than the need for more funds, that limits the pool of money available to them, and that, according to Davis, is the banks' current preoccupation with the yield on the money they are lending.

"Banks are becoming concerned with yield, how can they get the most money off that money that they're putting out," Davis explained. As a result, "Banks have come to an interesting crossroad in their dealings with lease companies and making funds available to lease companies.

"We have an intriguing situation in California," he continued, "where the bank is line financing the lease company and also brokering leases - a combination where they offer wholesale line of finance in this hand and buying leases as a lessor on the other hand. The rates are going out to the lease company on a wholesale basis around 15.5%. You need to know, in defense of banks, that we pay now 13.216% on $100,000 certificates of deposit. So we can't buy the money for 13% and lend it to you for 12%, so temporarily there is that differential. However, here's the thing, when they buy a lease, from a dealer or a lease company that wants to broker a lease, they're taking an internal rate of money that is significantly below the 15.5%. You can't compete with that."

Davis said it doesn't stop there. "They do something else that is interesting. They tell you, the lease company, what the car is going to be worth in three years. And virtually none of them know anything about the automobile industry. I'm not attacking individuals; they (bank officials) did not get to be where they are today because they're dummies. They just don't happen to know a lot about the automobile industry. So they say a lease company, 'we will give you a line of money and we want you to pay us back at 1.5% per month." He added that many banks use residual books that give varying depreciation rates for various types of vehicles. "I defy anybody who really knows anything about the automobile business, to tell me, in any sensible terms, that all Sevilles should be reduced at 1.5% per month. I want to know what Seville, leased to what guy, coming back at what time of year with what kind of equipment. You know that and I know that and I think individuals at banks know that but the organization doesn't know it.

"So they tell you, okay, you've got to reduce it 1.5 per month," he said. "On four years, let's give them a break. Let's say the lessee brings it back at 30%. That means whatever the lease company borrowed from the bank, you've got to pay 70%, so you've got to reduce the car by 70%, over the 48 months.

"Then the banks says to you, but under our program you can write a lease with 60% residual at the end of 48 months," he added. "That is not a 60% residual over acquisition cost, but 60% residual of window sticker. What you have is a situation where, if you can write a lease and sell it to a bank, you only have to reduce it over a four-year period, really about 30%, because the banks are talking about the lease company paying 70% of the acquisition cost of a car that is to be brought back on their plan at 60% of sticker. So you've got this strange out of balance situation where a bank says to you, the lease company, if you sell the car to us and let us collect the payments on our credit standards which are not as good as a good lease company's standards, by some strange chemistry known only to banks alone, that car is going to be worth 60%. If you, however, borrow the money and collect the payments and chase the title and do the insurance work, for some strange reason, the car is going to be worth only 30%. I don't understand the difference."

As a result of this brokering and the willingness of banks to get into leasing rather than finance of lease companies, Davis said a new problem is being created for lessors. "Lease companies are not going broke," he said, "they're running out of money. Because when you find situations where cash flow becomes so critical, that not only must they (lease companies) borrow money to finance the vehicles that they lease, they have now got to begin to plug capital into the company because their amortization payments are so out of kilter with the market. And the companies that are doing well are continuing to function without injecting cash to stop this hemorrhaging they're suffering from and they are the companies that have been in the market for 10 or 15 years. These companies have got a lot of turnover; they've got many terminations. The cash is flowing out of the company for them and they can afford to invest that money. At 15.5% prime, that's not a bad investment for funds."

The bottom line, according to Davis is that "the more banks become involved in leasing in their in-house broker and/or actual lessor acquisition-type programs, the less money they're going to have to finance the individual companies. They're going to be at odds with themselves. The question they'll be asking themselves is 'do we continue to finance our own thing, or do we take money out of our program and put it into what is in effect our competitor's business?' I see this moving in a direction to where the lease company becomes the competitor of the bank. I really am concerned about this."

Recognizing that there is this threat to the lessor's money supply, Davis said that there is probably not much a lease company can do about it except one or two basic things. "This is old stuff and you've heard it thousands of times-do, do have good accounting and do have money in the account. The guy in the bank maybe isn't smart enough to know what you're doing, but he's smart enough to know that you don't know what you are doing. I don't know how you can run a business without having a balance sheet. If you do have an accountant, have a good accountant. Do have some regular communication with the bank.

Have somehow in the mind of whomever you're dealing with, your source of funds, the fact that you aren't a goof, that you're not going to run off and you do know what you're doing. Be prepared to explain why you got into a lease a certain way. Don't worry whether he is going to understand it or not, just be prepared to explain it to him. Show him what it is you're doing, why you're concerned about cash flow and why his investment in you is good for him."

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Davis views bank involvement as the biggest threat to leasing, and he feels that involvement is going to lead to more consumer legislation in the industry. "As the (banks') funny residuals, the poor credits and the possessions begin to build up, you're going to get some guy sitting in Sacramento in our state, or wherever your state capital is, who doesn't have enough to do and he's going to decide that the leasing industry is ripping off the public." Davis said that the classic case would be dug up by the government to justify increased regulation. "He'll be this poor old guy who was told his car is going to be worth $5,600 when it's $3,500 and they want their money. And everybody will forget about the three payment limitations and it will get to the newspapers. Then here comes another flood of protective consumer legislation. It will not be directed at the dumb banks. It will be directed at you guys (the lessors). And it's going to happen state by state by state." While Davis feels that the banks engaging in leasing is the first big problem to an adequate supply of money for lessors, he feels the second major stumbling block is specific lack of knowledge on the part of lenders. He feels some banks that do not engage in leasing are also wary of lending money to leasing companies because they don't know anything about the market. "Anything that you don't know about, you are afraid of," Davis said. "A lack of knowhow creates fear. If you (as a lease company) get up to $2-million or $4-million and you need a couple more million dollars from a lender somewhere, he doesn't really know what you're doing." He said many banks will meet to discuss their lending portfolios and during the discussion someone will finally ask the question, 'what is this leasing business all about anyway?' Nobody really knows the answer and that's when the cap will go on the $2 million you've borrowed. You go somewhere else and the other bank wants to know, "how come they've cut you off? There must be something wrong.' Bankers take an interesting kind of attitude, a few are like doctors who don't like the sick. It's my impression that they are there to help businesses to make money and to solve problems."

Some lessors find the lack of knowledge on the part of their banks disquieting, Davis said. "I know in talking to some lessors, they go to the bank and the bank says fine, how much money do you want. It's like going to a doctor, you've got some symptoms and he says, well, what kind of medicine should I give you. That creates a great deal of disillusionment. I want him to know enough about his business that he can make suggestions to me and listen to my situation and my complaints and administer to me accordingly."

Davis said participation of banks at meetings such as CARALA's can go a long way in bridging the gap between banks and lessors in the area of money availability and knowhow. "As an organization, you persons who will move through the chairs of responsibility in this organization, get banks in here. Make them understand who you are and what you are doing. And then you will have a better chance of getting that money."

Taking a more moderate view, Ronald Ruane of International Bank Credit Corporation said that banks provide all the money for financing of vehicles in the country, adding that even the captive finance companies such as GMAC, Ford Motor Credit and Chrysler Financial borrow money from banks. "So all the money flows from the banks in this country and all the cars flow from the manufacturer's dealers."

Noting that he puts banks in leasing for a living, Ruane agreed with Davis that banks are becoming increasingly aware of yield. "What the banks look at back east is yield. As Bill said, this is a fairly new concept to them."

Outlining the involvement of banks in leasing, Ruane said "generally, when banks get involved in leasing, they get someone from the installment loan department. Generally, the person in the bank organization that knows the most about lending is in the commercial department and they also know about making loans to the leasing companies. However, when the banks get involved in leasing itself, they go to the installment loan department. One of the idiosyncrasies of banking back east, is that for some reason, the prestige of being a commercial banker exceeds that of the installment loan banker."

In addition to the experience factor of installment versus commercial as it relates to leasing, prime interest rates also determine who gets the money, Ruane said. "When the prime rate is low, installment people are making all the money for the bank and the commercial loan people are not making that kind of money. But now, it is reversed. The commercial loan fellow, for example, made a loan in the morning for $10-million at 17%. This fellow down here in the installment loan department, because of various state cap laws, -my home state of Pennsylvania has a six% maximum on car loans - made a loan this morning of 11.79% and they tell him if he makes one more they're going to shoot him. The bank is interested in making installment loans because they're not getting the yield."

Looking at the current situation of banks with regards to leasing, Ruane said, "I personally feel that the banks are going to do the leasing business what they did to the finance business. I remember in 1955 when I talked to GMAC, the banks had very little influence in installment lending. In indirect lending, GMAC, Commercial Credit, and CIT owned the business. The banks got into it. They offered lower floor-planning. They offered better discounts and the next thing the car dealer found out, the banks owned the customer. He (the dealer) became a vehicle to provide funds for the new car."

Ruane raised the example of Willie Sutton, the famed bank robber, who was once asked why he robbed banks and he replied "that's where the money is." For that reason, Ruane said, "that's exactly why banks are going into direct leasing of autos. The yield to them is the same whether they lend you the money or they put it over the counter themselves. The difference, of course, to you as lessors is that you may now have another co-signer."

According to Ruane, the thrust of the bank now is yield. "They're interested in making money. They're interested in retaining that portion of the installment lending, that portion of the car market that they captured. It took them 15 years to capture the installment loan business, I don't think it will take that much longer to capture that portion of leasing business." As leasing begins to take a greater share of the new car sales, banks will be looking to maintain their share of the market through increased leasing activity at the expense of installment lending.

"I would recommend to you," Ruane advised, "if I were sitting your shoes today, I would have several relationships. I certainly would have a good banker relationship because you need money for other things than just leases. I would certainly establish and maintain a line of credit with the captive finance companies."

Ruane concluded that "banks are going to be an influence in the leasing market. They will be competing in the market, but they've always competed with you. Those of you that are automobile dealers know that and have done business with banks for years who do indirect installment lending with you and yet the consumer can walk right into the bank, buy the same car from you and get the money directly from the bank. It's nothing new."

 

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