Car-rental companies, already struggling to come back from the post-9/11 travel slump, continue to deal with a difficult used risk-car market. The industry has not seen a hoped-for better used-car market for its risk units. (For definitions, see Industry Jargon, pg 50.) Car-rental companies face an unprecedented “double whammy” - rental transactions are down compared to the late 1990s in a stagnant travel environment, and used rental risk-car prices have also declined. In the normal business cycle of the past, car-rental companies have made gains on used cars when rental operations have produced less revenue. Most car-rental companies, large and small,have devised strategies to deal with this problem. However, car-rental operators had anticipated some relief in the form of improved risk-car residuals, the result of an improving economy and changes with auto manufacturers’ new-car retail incentives. This relief may not occur soon, so car-rental companies are pursuing lifecycle cost management. Click here for Chart 1
Unstable Used-Car Market
Early last year, car-rental operators were looking forward to an improving market climate for used rental risk units. Auction sales started to improve in the spring and summer, but not in a consistently growing manner. Resale values were up $500 one week, then down $1,000 the next, making remarketing planning highly unpredictable.
In October 2003, used risk-car resale values were down 4.7 percent from the previous year, according to ADESA Corp. auction sale data. The two months prior to October weren’t much better. Used rental units were down 3 percent in September and 4.5 percent in August compared to 2002. “Risk cars are more affected by the impacts of new-car incentives because they tend to be current or one-year-old models,” says Tom Kontos, VP, industry relations & analytical services for ADESA Corp.
“Risk cars tend to be higher mileage than program cars, and both program and risk cars are generally high mileage relative to their age. This makes it even harder for these models to compete with incentivized new cars.”
In a soft economy, used rental units are generally sought by auto dealers and retail consumers since they represent a good value when consumers are carefully watching their pocketbooks. However, with heavily incentivized, zero-percent financing and rebates, new cars are the smart buy. Many new-car buyers trade in late-model used cars as part of the sales exchange, putting another used car into the market to compete with risk units.
The issue of whether auto manufacturers will back off substantial new-car incentives if the economy improves remains unclear to most auto industry analysts. Auto industry observers say the new United Auto Workers contracts may help reduce the overcapacity problem in two to three years, but for now, the new-car retail pump is being heavily primed with purchase incentives. It appears that car-rental companies will have to manage through a soft used risk-car environment for the foreseeable future. Some industry observers speculate that car-rental companies have held onto program and risk units longer to weather difficult operating conditions; however Kontos hasn’t seen evidence of this trend. Used risk units generally have about 30,000 miles and used repurchase units total about 25,000 miles at remarketing, he says. These figures haven’t changed much in recent years. Click here for Chart 2
How Operators Respond
There are a variety of remarketing strategies being employed by the car-rental companies, including:
• Risk-Car Incentives. Major car-rental companies, especially Enterprise Rent-A-Car with its massive risk-car fleet, have managed the situation by building the auto manufacturers attractive upfront incentives into a vehicle’s capitalized cost. In the past, large and small car-rental companies treated this cash flow as revenue. With these funds now applied to vehicles’ capitalized costs, car-rental companies also set realistic monthly depreciation rates to avoid losses at the back end. The attractive manufacturer fleet programs offered for the 2004-model year facilitate this disciplined approach. Major car-rental companies can negotiate several sources of financial assistance, including fleet purchase incentives, rebates, and advertising programs.
• Retail Sales of Used Risk Units. Bill Lanier, managing partner of Automotive Fleet Resources, based in Memphis, Tenn., has observed several rental operators selling risk units to retail buyers. Sometimes informal operations, such as small car-rental operators, sell four to five used risk units to customers or referrals. Other major operators, such as Enterprise and Thrifty Car Rental, benefit from a network of used-car lots and sell risk units on these lots based on local market demand. Retail car sales, when the market demand is right, generate a higher resale value and reduce remarketing costs.
• Buying More Program Cars. Some car-rental operators have been buying fewer new risk units and purchasing more program cars (also known as repurchase units). Without the volume buying power to purchase new program units directly from manufacturers, small and medium operators generally must use a third party. Denny Hecker, CEO of Minneapolis-based Walden Fleet Group & Leasing has seen his business grow as small- and medium-rental operators have built up fleet with additional program cars and fewer risk units. “I don’t know how anyone can take risk units in this market,” Hecker says. “It’s an unpredictable environment with manufacturer retail programs changing every six months.” Walden Leasing currently leases 48,000 program cars to rental operators. Walden negotiates with manufacturers for program cars and offers financial incentives to rental operators who wouldn’t otherwise have access to these cars. Automotive Fleet Resources also offers car-rental customers fleet leasing programs, according to Lanier.
• Focusing on Operations. The most important change in the car-rental industry impacted by the post-9/11 environment and the weak used-car market has been a disciplined, back-to-basics approach in running their operations. Fleets have stayed tight and highly utilized, helping produce decent rental rates and daily dollar average in many markets, according to Long Beach, California-based research company Abrams Travel Data Services. Other operating costs, including labor and marketing, have been tightly controlled. Hecker sees this trend with many of his car-rental customers, too. “Rental-car operators are focusing more on profitability in operations through higher rates and utilization than gain on resale,” says Hecker.
• Buying More Used Cars. Smaller operators serving local markets have controlled fleet holding costs through fleeting up with used cars, often with used program and risk cars from major car-rental companies. This strategy offers two benefits: the cap cost is lowered since the car has depreciated substantially after its first year, and the market for a 50,000-mile car is often better than for a 25,000-mile car. Not all car-rental companies can adopt this strategy. For example, large operators serving airports, especially business travelers, must offer customers fresher cars.
Jon LeSage, VP & director of research of Long Beach, California-based Abrams Travel Data Services, a market research company focusing on car rental, fleet, travel, and transportation, can be reached at jlesage@ abramsconsulting. com.