Friday, August 1, 2008



Chrysler’s decision to get out of the leasing business, and decisions by GM and Ford to throttle back their leasing activity to the point at which leasing of trucks from either of the Public Big Two will probably no longer be an option, will probably turn out to be a fateful, if not a fatal, decision.

Leasing has been sold with a number of anodyne bromides, from the ridiculous “Why pay for the portion of a car you aren’t using?” to the slightly less risible “You shouldn’t finance a depreciating asset” to the plausible argument that there are legitimate business reasons for leasing that have almost everything to do with the tax code and very little to do with the inherent virtues of leasing. But the real reasons for leasing, if we are to be honest with ourselves, are twofold:

· Leasing, because of its relative opacity, allows car manufacturers to discount their products without being sufficiently blatant about it to destroy the cache of the product being discounted. This is especially important for “luxury” carmakers, for which cache is the most salient selling point. This, combined with the second bullet point, is why leasing started with luxury carmakers and remains, on a percentage basis, far more common among luxury marques than it is among more pedestrian marques.
· Leasing lowers the purchaser’s (Be assured, a lessee is indeed a purchaser, not a renter. Leasing is merely another means of financing a purchase.) down and monthly payments, enabling the consumer to drive more car than he or she could otherwise afford. This is by far a more salient “advantage” to leasing than the first bullet point.

Despite my transparent feelings about leasing, leasing has without a doubt worked out very well for those who used a lease to finance their car purchase. Those of us who have eschewed leasing have missed out on some really good deals. How can I say this with such definitiveness? A slightly more than casual reading of any domestic car manufacturer’s financial statements reveals the big losses that leasing has engendered. When a consumer turns in his leased car and it is worth less than the assumed residual value at the end of the lease, the leasing company, a captive of the car manufacturer in most cases, takes the hit. The carmaker’s loss is the consumer’s gain; it is as simple as that. In fact, it is leasing’s having been such a good deal for the consumer which has led to the recent sharp curtailment (elimination, in Chrysler’s case) of leasing at the domestic auto manufacturers. Furthermore, these losses from leasing are not a recent development; such losses have been a hardy perennial at the car company’s financing arms for years. The recent decimation in SUV prices that has led to astronomical losses on leasing of late (e.g., $716mm in 2Q ‘08 at GMAC) have merely been the straw that has broken the banal camel’s back.

So it would appear that effectively exiting leasing, or at least exiting disadvantageous leasing, is a smart move on the part of the dowagers of Detroit. However, there is a major problem: Many, probably most, people driving $30, $40, or $50 thousand cars cannot afford the cars they are driving. In fact, the same might legitimately be said of even less expensive cars. IF IT WEREN’T FOR LEASES THAT ARE DISADVANTAGEOUS TO THE CAPTIVE FINANCE COMPANIES, PEOPLE COULD NOT POSSIBLY BE DRIVING THE CARS THEY ARE DRIVING. Think about it: how many people can legitimately afford a $40,000 car? How many $40,000 cars (or vehicles) are on the road? The latter is far higher than the former. This is a problem not limited to the Big 3 by any means; Lexus, Infiniti, and Acura probably would not exist were it not for leasing, and Mercedes, BMW, Audi, Jaguar, and all the “lesser” brands would be selling far fewer cars, or, in a few cases, would not be doing business at all, in the United States. The key difference, of course, is that Toyota, Nissan, Honda, et. al., can afford to continue leasing, especially with their more durable resale values. GM, F, and Chrysler cannot.

The Big 3 were faced with a Hobson ’s choice: continue taking a bath on leasing or sell far fewer cars, especially far fewer expensive, profitable vehicles. They chose the latter, but I’m not sure it makes any difference.

This of course, leads to the question that I have been asked a lot lately: Are any of the Big 3 going bankrupt? Though I have not been sanguine about the Big 3 for awhile (See the following posts: 3/24/07, 3/31/07, 4/3/07, 5/14/07, 5/15/07, 9/19/07, and especially 11/13/07.), if you had asked me that question a year ago, or even six months ago, I would have replied “No” rather emphatically, mostly because bankruptcy, given the importance of the warranty in a car sale, is the very last resort for a carmaker. (The warranty issue can probably be circumvented because third warrantors can be brought into the process, but using a third party would be expensive and cumbersome under any circumstances and virtually, but not completely, impossible in a bankruptcy situation. That is another post for the future when time is more readily available.) However, the way things look now, the last resort may be the only resort for at least one, and maybe all, of the Big 3. Chrysler scares me the most because of its pathetic product line, huge (despite the denials of its owners) financial leverage, and the motivations of its new owners as financial players. But it would not be completely ridiculous to postulate bankruptcy for either GM or F. Not completely ridiculous, but still far-fetched, especially for F, long my favorite of the Big 3.

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