For the past three years, the high volume of new-vehicle incentives that auto manufacturers are using to stimulate retail sales has exerted downward pressure on used-vehicle prices. On the other hand, the aggressive fleet incentives that have been in play since 2001 are starting to have the opposite effect on fleet resale values by helping to lower net depreciation expense. For instance, last year, fleets began to remarket vehicles that came into service during the post-9/11 period of aggressive fleet incentive programs. A number of fleets wisely chose to capitalize those incentives to reduce acquisition cost. Those fleets are now experiencing a positive affect on net depreciation. However, fleets that choose to take these incentive monies in the form of a check are continuing to struggle to recoup enough at resale to break even, especially if they are depreciating vehicles at 2 percent per month.

Outlook for Calendar Years 2004-2005
For the past several years, we have witnessed deflation in net fleet acquisition costs. However, retail incentives are acting as a counterforce to the benefits of high fleet incentives. Retail incentives during 2003 were higher than 2002 levels. This increase was on the heels of a 20-percent year-over-year upsurge in incentive spending experienced from 2001 to 2002. As a consequence, fleet resale values slid downward in 2003, but the slide was mitigated by the higher fleet incentives. For the 2004 calendar year, Automotive Lease Guide, a forecaster of residual values, anticipates retail incentives will increase an additional 15 percent over 2003. There appears to be some initial credence to this forecast. Autodata Corp. reported that GM retail incentives averaged $4,189 per vehicle in January 2004, up from $3,785 for all of 2003. Similarly, DaimlerChrysler offered an average of $3,904 in retail incentives in January, up from $3,451 for all of 2003. The exception was Ford, whose average retail incentive in January was $3,215, down $18 from last year.

Less Inventory in the Wholesale Market
Although resale values are down due to retail incentives, the decreased number of used vehicles entering the wholesale market is mitigating the impact on resale. Currently, there are fewer used vehicles in the wholesale market, compared to past years, which is starting to stabilize fleet resale values for some vehicle segments. For example, there were 1 million fewer lease originations in 2001 compared with 1999. This will represent a 25-percent decline in the 2- to 4-year-old-vehicle supply entering the wholesale market over the next two years. Several large financial institutions have exited the retail leasing market and are no longer originating new leases but instead are running down their lease portfolios. Likewise, manufacturers are putting fewer program cars into daily rental service, which, as a consequence, is decreasing the number of units sent to auction. In recent years, commercial fleets have been buying fewer vehicles, so their total number of units being remarketed has declined. (The exception is minivans, which continue to be in high inventory and, as a result, resale prices continue to be soft.) In addition, as more consumers finance vehicles with long-term 60-month loans, many will find themselves upside down and may be more likely to hold on to their vehicles longer. When you talk with wholesalers, they are hungry for well-maintained used vehicles. The lower inventory means less competition for finite remarketing dollars at wholesale auctions, resulting in more equilibrium between supply and demand.

Two Ways to Lower Net Depreciation
Some believe the used-vehicle market is entering a cyclical upswing, and market forces seem to be trending in the right direction. The national economy is doing better and, with this being an election year, it is anticipated that the federal government will do its best to ensure that the upswing lasts through 2004. However, retail incentives continue to be the wild card in determining the future strength of the resale market. Despite the positive impact of high fleet incentives, retail incentives are a powerful counterweight. Nonetheless, the fleet incentives offered for the 2004-model year continue to be extremely attractive and substantial. It behooves commercial fleets to capitalize these incentives into the cost of a lease or to reduce their upfront acquisition cost. As any lifecycle analysis will reveal, if you want to lower net depreciation you can do so one of two ways - either increase resale values or decrease acquisition costs. It’s impossible to predict wholesale market conditions 32 months from now, when your vehicles will be taken out of service, but you can position yourself to minimize net depreciation by becoming a shrewder buyer today. Let me know what you think.