Dealers Push for Greater Flexibility in Aftermarket Financing as Lenders Navigate Shifting Market Dynamics
The Critical Role of Aftermarket Financing
December 2nd, 2024
In today’s automotive industry, dealers are calling for lenders to reevaluate their loan-to-value (LTV) thresholds to enable greater flexibility in financing aftermarket products. These products—extended warranties, service contracts, and accessories—represent significant profit opportunities for dealerships while offering consumers valuable enhancements to their ownership experience. However, stringent LTV caps,
which often range between 115% and 125%, are creating barriers for both dealers and consumers in a lending environment that is already under pressure.
At the same time, automakers are grappling with evolving strategies around leasing portfolios, customer retention, and market positioning. By taking a closer look at these trends, we can better understand the financial implications and strategic shifts shaping the automotive financing landscape.
The Critical Role of Aftermarket Financing
Aftermarket products are an essential revenue stream for dealerships, accounting for as much as 30% to 40% of dealership profits in some cases, according to industry reports. These products also enhance customer satisfaction by addressing long-term ownership concerns, such as repair costs and customization.
However, lenders’ LTV restrictions are limiting consumers’ ability to finance these add-ons. The Consumer Financial Protection Bureau (CFPB) notes that higher LTV ratios increase lender risk, especially in a depreciating asset market like automotive. Lenders aim to safeguard their portfolios by capping LTV ratios, but these restrictions can leave dealerships struggling to close deals on valuable products. (cfpb.gov)
Key Data:
115%-125% LTV caps: Common across many lenders, these thresholds limit the financing of aftermarket products, especially in segments where vehicle depreciation is rapid. (nerdwallet.com)
Customer reluctance: With rising interest rates, consumers are less willing to stretch their financing to include add-ons, further challenging dealer profitability.
Trends in Automotive Lending
The lending environment is undergoing significant changes, shaped by rising interest rates, inflationary pressures, and shifting consumer behavior.
1. Rising Interest Rates:
Average auto loan rates for new vehicles have climbed to 9.6%, while used vehicles hover around 13.5%, according to Edmunds. (edmunds.com)
Higher rates not only affect monthly payments but also increase lender scrutiny over LTV ratios, tightening the constraints on aftermarket financing.
2. Evolving Credit Standards:
Lenders are adjusting their risk models, especially for subprime borrowers, whose delinquency rates have reached 1.65% for loans 60+ days past due, according to Equifax. (equifax.com)
3. Lease Penetration Trends:
Lease penetration, which peaked at nearly 30% of new vehicle sales in 2019, has declined to around 18% in 2024, primarily due to higher monthly lease payments driven by rising interest rates and elevated vehicle prices. (autonews.com)
Leasing Portfolios: Strategic Shifts Among Automakers
Leasing remains a critical tool for automakers to drive customer retention and manage inventory cycles. However, strategies vary widely across the industry, reflecting differences in brand positioning, financial health, and market dynamics.
Mainstream Automakers:
Ford: Ford Credit has focused on balancing lease incentives with profitability. The company uses lease-end loyalty programs, offering attractive terms for returning customers to maintain retention rates above 70%. (ford.com)
Toyota: Toyota Financial Services leads the market in lease satisfaction, according to J.D. Power, by emphasizing competitive pricing and end-of-lease flexibility, such as mileage forgiveness and upgrade offers. (jdpower.com)
Luxury Automakers:
Mercedes-Benz: Facing challenges in key markets like China, Mercedes is leveraging its leasing portfolio to sustain customer retention in more stable regions. The brand offers tailored lease-end experiences, including exclusive loyalty incentives for its AMG and EQS models. (thetimes.co.uk)
BMW: BMW Financial Services has integrated its lease-end process with its "Ultimate Driving Experience" events, using these touchpoints to encourage lessees to upgrade within the BMW family. (autonews.com)
Audi: Audi uses targeted incentives to retain lessees, focusing on its EV models as part of a broader push to increase its electric vehicle market share. (audimedia.com)
Financial Performance and Lease Retention Metrics
The effectiveness of lease retention strategies is a critical measure of automakers’ financial health. Here’s a snapshot of how major manufacturers are performing:
Ford:
Lease retention rates remain strong, hovering around 72%, supported by loyalty rebates and flexible lease-end options. (ford.com)
Ford Credit’s earnings from its leasing portfolio contribute significantly to the company’s overall profitability, even as it invests heavily in electric vehicle development.
Toyota:
Toyota Financial Services leads the industry with a 76% lease retention rate, reflecting its strong focus on customer satisfaction and product reliability. (toyota.com)
The company’s leasing portfolio accounts for 25% of its financial arm’s total revenue, underscoring its importance to Toyota’s business model.
Luxury Brands:
Mercedes-Benz reported a 65% lease retention rate in 2023, slightly below competitors like BMW and Lexus, as global economic pressures weighed on luxury markets. (autonews.com)
BMW’s leasing division saw a 12% increase in revenue in 2024, driven by high-end models and a focus on EV transitions.
Challenges and Opportunities in the Current Market
Challenges:
Tight LTV Ratios: Dealers continue to face difficulty in financing aftermarket products under restrictive LTV caps.
Higher Borrowing Costs: Rising interest rates are deterring both lease renewals and add-on financing, putting pressure on dealership margins.
Inventory Challenges: Supply chain disruptions and elevated vehicle prices are limiting inventory turnover, affecting the leasing pipeline.
Opportunities:
EV Leasing Growth: Automakers are increasingly promoting electric vehicle leases, offering lower upfront costs and targeted incentives to attract new customers.
Technology Integration: Advanced analytics are helping lenders better assess risk, potentially enabling more flexible LTV policies for creditworthy borrowers.
Customer Loyalty Programs: Automakers that prioritize lease-end satisfaction through loyalty rewards and flexible options are better positioned to retain customers and stabilize revenue streams.
Strategic Implications for Lenders and Dealers
For lenders, the path forward involves balancing risk management with flexibility. Adjusting LTV ratios for trusted dealerships or introducing targeted financing options for aftermarket products could help bridge the gap. Meanwhile, dealerships must invest in customer education to demonstrate the value of aftermarket products and explore alternative financing structures, such as bundling add-ons into manufacturer-backed loans.
For automakers, strengthening lease retention strategies remains critical. By creating seamless lease-end transitions, automakers can not only boost loyalty but also maintain a steady flow of high-quality used vehicles into the certified pre-owned (CPO) market—a key driver of profitability in a high-interest environment.
Conclusion
The automotive financing landscape is at a crossroads. As dealers push for greater flexibility in aftermarket financing, lenders and automakers must adapt to shifting market conditions and consumer preferences. By balancing strategic risk management with innovative retention programs, the industry can unlock new growth opportunities while maintaining financial stability.
The key to success lies in collaboration—between lenders, dealers, and automakers—to create solutions that meet the needs of today’s market while preparing for the challenges of tomorrow.