Passenger Car Leasing

Industry Snapshot

The passenger car leasing industry is composed primarily of companies that provide corporate clients with a range of fleet management services in addition to automobile leasing. Fleet management services can be classified broadly as vehicle acquisition, maintenance management, fleet disposition, and fleet support services, which range from fuel credit cards to driver safety programs. The National Association of Fleet Administrators reported that the most popular services were vehicle ordering, delivery to individual drivers, insurance subrogation, and accident repairs. Most companies in the industry also leased light trucks and utility vehicles.

Leasing of cars to individuals boomed during the 1990s, and many automobile manufacturers coordinated more closely with their financing arms and dealer networks to capture a share of this growing market. The automakers' efforts lured some customers away from banks and independent finance companies. However, by the early 2000s, the automotive industry moved away from leasing in favor of offering very low interest rates for new car purchases as well as low-priced used cars. By the mid-2000s, leasing was back up again, offering attractive rates for shorter terms on nicer cars, with a large percentage of consumers qualifying for leases than ever before. The industry took another hit in the late 2000s when the U.S. economy fell into a recession after the subprime lending market collapsed. Car leasing was particularly affected by the subsequent credit freeze. Car sales plummeted and some lease financing firms--including Wells Fargo and Chase--dropped their leasing programs altogether. Analysts predicted that leasing would likely increased again gradually once the economy stabilized but may never again reach prerecession levels.

At the height of its popularity in the mid- to late 1990s, about 35 percent of all company cars in the United States were leased. That figure represented an increase of 400 percent from 1984. Although industry analysts were optimistic that 50 percent of all vehicles would be leased during the early 2000s, lease volumes quickly plummeted before going back up in the mid-2000s. There was a surge in new leases, particularly in 2006, amounting to 21 percent higher than 2005 levels. Rapidly declining in the late 2000s, leases hit a low of 10 percent in July 2009. According to a 2009 Dun & Bradstreet report, the car leasing industry had 1,965 establishments that generated nearly $3 billion in revenues.

Background and Development

The automobile leasing industry developed in the 1940s as companies looked for affordable ways to provide their sales and service personnel with reliable transportation. Petrolager, a large pharmaceutical company in Chicago, was an early case in point. Petrolager began by paying part of the cost for employees to purchase their own cars, but that became a losing proposition when the employees left for other jobs and took the automobiles with them.

In 1939, Zollie Frank, a car dealer in Chicago, suggested that Petrolager lease five automobiles for its salesmen instead of purchasing them. The benefits were twofold. Petrolager would retain control of the vehicles and avoid large cash outlays. Petrolager agreed, and soon afterward Frank and his brother-in-law Armund Schoen founded the Four Wheels Co., which many in the industry identified as the first automobile leasing company. In 1954, the company became known as Wheels, Inc. It remained one of the largest fleet management companies in the United States in 1997 with more than 160,000 automobiles under lease.

The industry developed slowly, however, especially after the United States entered World War II and wartime restrictions made it almost impossible for leasing companies to purchase new automobiles or replacement parts. However, the industry began to grow in the late 1940s during the post-war economic expansion.

Finance Leasing
In 1946, three former servicemen--Duane L. Peterson, Harley W. Howell, and Richard M. Heather--formed a partnership in Baltimore, Maryland, to counsel companies on fleet management. By 1954, Peterson, Howell & Heather had incorporated and moved into the leasing business.

The company was credited with developing the industry's first "finance lease." Under the PHH Car Plan, Peterson, Howell & Heather would purchase automobiles and lease them to a client for a set monthly fee. When the lease ended, the company would sell the cars to pay off the balance on its original loan. Any surplus was returned to the client, but the client was billed if the resale failed to cover the loan. In a "closed" or "walk-away" lease, by contrast, the lessee had no financial obligation at the end of the lease period.

In 1981, a U.S. District Court ruled that finance leases were conditional sales contracts, which eliminated many of the tax benefits of "open-ended" leasing. However, although the percentage of closed or "operating" leases increased, open-ended leasing remained popular even after the court ruling. Automobiles were often sold to the client's employees when the lease expired.

Competition
The car leasing business grew rapidly in the late 1950s. In 1963, Time described the industry, reporting that leasing volumes had doubled to 600,000 vehicles in only five years. This explosion had led to the formation of a new, highly competitive industry worth $750 million, in which some 3,000 companies participated.

Carmakers were also beginning to take note of the industry. In 1962, Chrysler Corp. formed its own leasing company, the Chrysler Leasing Corp., which was phased out in 1968. Ford Motor Company and General Motors also announced special financing programs in the early 1960s to encourage car dealers to offer fleet leasing. By 1970, more than 11,000 car dealers were involved in leasing, and the total number of automobiles under lease in the United States exceeded one million.

Restructuring
Rising interest rates, which reached a high of 21 percent in 1980, forced many smaller companies out of the industry. However, the Economic Recovery and Tax Act of 1982, which gave vehicle leasing companies substantial tax benefits, attracted several powerful new players. In 1987, for example, General Electric Company purchased GELCO Fleet Management Services, and Ford Motor Company purchased United States Fleet Leasing, Inc. GELCO was later renamed GE Capital Fleet Services.

Impact on Detroit
Because leasing represented a major share of the domestic automobile market, leasing companies had a major influence on U.S. carmakers. Clients generally followed their leasing company's recommendations, from broad suggestions about size and optional equipment to specific models.

Until the 1960s, most leasing companies recommended standard six-cylinder automobiles with manual transmissions and very limited optional equipment. Then, in the 1960s, companies began recommending bigger cars with automatic transmissions, power steering, air conditioning, and radios. By the end of the decade, most corporate fleets consisted of full-size, eight-cylinder automobiles.

In the early 1970s, leasing companies began recommending intermediate-sized cars for better fuel economy. Intermediates accounted for 16 percent of the leased fleets by 1973 and 80 percent by 1977. In 1981, Peterson, Howell & Heather (later PHH FleetAmerica) became the first major leasing company to recommend compact cars. More than half the fleet automobiles leased in 1981 were four-cylinder cars. The most popular cars leased in 1995 were midsized: Ford Taurus, Honda Accord, and the Ford F-Series pick-up. Until the late 1980s, leasing companies almost never recommended foreign makes of automobiles, even if they were built in the United States.

Corporate downsizing and cost-cutting in the early 1990s also affected the automobile leasing industry. Fleets were reduced either because corporations had fewer employees or because they eliminated benefits such as company cars. The number of car leasing establishments decreased significantly from 1,144 in 1990 to 531 in 1996. The number of industry employees also decreased, from 10,800 in 1990 to 5,700 in 1996, a decline of almost 50 percent. However, the largest leasing companies gained business during the same period.

In late 1999, the decline of personal use leasing continued, with leased cars accounting for 31.8 percent of the new car market, down 3 percent from the previous year.

In general, leasing companies that also provided fleet management services were optimistic about the future, as more corporations began to contract for services that previously were provided in-house or new services that offered better control of costs. Many corporations with large fleets also looked to leasing companies for help in meeting federal regulations regarding fuel efficiency.

The Uniform Consumer Leases Act was expected to be in force by the year 2000. This act was expected to have a negative impact on automobile lessors, primarily because it was largely a one-sided document, emphasizing consumer needs. It included language regarding lease rate disclosure, open-end lease restrictions, GAP coverage provisions, and limitations on determination of excess wear and tear.

Automobile manufacturers found that leasing increased brand loyalty and provided dealers with a steady stream of good used cars. However, some analysts worried that as leasing gained in popularity, the resulting flood of used cars could deflate prices and detract from new car sales. The trend toward used vehicle leasing was expected to combat such issues. In addition, some carmakers found that short-term leases meant that products needed to be updated more quickly, or consumers would likely switch to a competing product. In order to distinguish themselves in the increasingly competitive leasing field, manufacturers developed innovative programs, including a 12-year lease with replacement every two years, and a weekend-only lease for urban residents. In 1999, fleet dealers were focusing on customer service and marketing segments to retain their competitive edge.

Passenger car leasing remained a significant component of the nation's economy during the early 2000s. At that time, the National Association of Fleet Administrators, Inc. (NAFA) reported that its members were "responsible for the specification, acquisition, maintenance, and disposal of more than 2.7 million vehicles. These vehicles, with an average initial cost of $16,400, put NAFA Members in control of more than $44 billion worth of assets."

Nonetheless, the industry was not without its challenges. Although passenger car leasing industry revenues increased approximately 3 percent in both 1999 and 2000, U.S. Census Bureau figures reveal that revenues fell almost 3 percent in 2001. By that year, the U.S. economy had started to decline. Although some industry observers noted that commercial leasing remained an attractive option for corporate America, the weak economy led companies in many U.S. industries to implement massive workforce reductions and cut back on spending. These factors challenged automotive leasing companies in 2002 and 2003 and likely had a negative impact on overall industry revenues.

One factor that worked against the leasing industry during the early 2000s, especially in the consumer market, were zero percent financing incentives from automakers. These offers affected the leasing market in two ways. First, they brought down the value of used vehicles. This worked against the residual values of leased vehicles (the amount vehicles are worth at the end of a lease), which is a key factor when determining monthly lease payments. As Automotive News explained in its February 1, 2003, issue, Automotive Lease Guide figures revealed that average vehicle values following a 36-month lease had fallen to 47 percent of sticker price. This was a decrease from 53 percent in late 1998.

In the past, some leasing companies overstated residual values in order to lower monthly payments for consumers and increase new lease volumes. These practices contributed to the significant financial losses incurred by banks and other financial institutions during the early 2000s. In August 2002, the Pittsburgh Post-Gazette cited results from a Consumer Bankers Association survey revealing that, on average, both automaker-owned and independent finance companies lost $2,451 per vehicle in 2001. This was an increase over per-vehicle losses of $2,342 in 2000 and $1,200 in 1998. In the wake of these losses, leading financial institutions like Bank One Corp., Bank of America Corp., KeyCorp, and GE Capital Corp. stopped offering vehicle leasing.

Zero percent financing deals also hurt the automotive leasing market because they made buying a new vehicle more attractive than leasing one. According to the Association of Consumer Vehicle Lessors (ACVL), new lease volumes fell from 2.57 million in 2000 to 1.5 million in 2001, which represented a decline of 40 percent. This trend continued in 2002. From January through November 2002, the ACVL reported that, in comparison to the same period the previous year, new lease volumes declined almost 15 percent. Considered together, the association explained that these figures meant that lease volumes fell about 50 percent from 2000 to 2002.

Vehicle leases peaked in 1999 and fell considerably until 2003.Following the September 11, 2001, terrorist attacks on the United States, dealerships were forced to offer attractive incentives on new cars to boost the economy that left the leasing segment stagnant. However, according to industry observers, passenger car leasing showed signs of recovery in the mid-2000s, following a five-year downturn.

Despite the improved economic conditions, industry analysts were studying other issues the leasing industry faced during that time. Final figures at the end of a lease were not realized, resulting in millions of dollars lost as predicted values fell short of real values. According to Automotive News magazine, American Banker reported numerous banks lost money on more than 90 percent of leased cars turned back into the dealer in 2001 and 2002. Many banks, such as SouthTrust, Wachovia, National City Corp., and KeyCorp exited the leasing business. Some banks that remained in the business of leasing were Wells Fargo and Huntington Bank. That figure dropped slightly in 2003, with 82 percent losing money. As a result, lessors began to take a pragmatic approach when it came to predicting the residual value at the end of a lease.

In 2005, Ward's Dealer Business reported leasing figures climbed 2 million vehicles, or 14.2 percent. Interest rates were on the rebound, again making leasing a favorable option. One industry analyst, Raj Sundaram, president of Automotive Lease Guide, forecast new lease volumes of 16.5 percent in the mid-2000s.

In 2006, according to Dun & Bradstreet, the 1,600 establishments in the passenger car leasing industry generated over $5 billion in revenue and employed 17,500 people. That year, car leasing was up 21 percent over 2005 levels, the best percentage rate since 2002. Due in part to the improving economy and to the increase in interest rates, leases were again popular ways for consumers to have access to better cars for lower monthly payments. Banks were re-entering the lease financing market as returns were improving.

Current Conditions

Although leasing regained some footing in the mid-2000s, the entire auto industry was severely affected by the economic recession of the late 2000s. Giant automakers Chrysler and General Motors declared bankruptcy in 2008. As credit sources became constricted or completely disappeared, leasing companies were left with no way to underwrite their customers. In fact, during 2008 some of the country's biggest auto leasing companies stopped writing leases altogether, including Chrysler Financial, GMAC Financial Services, Chase Auto Finance, and Wells Fargo.

In addition, sharp depreciations on leased vehicles caused billions in losses. Because leasing terms are based on the company's ability to sell off prior leased vehicles, when the car depreciates in value more than what is anticipated, the leaser cannot recover the cost of the vehicle. For example, according to Automotive Lease Guide, after a three-year lease, a Cadillac CTS was selling in the used auto market for 52 to 55 percent of its original value. During 2008, resale value dropped to 36 percent. In 2008, Ford and GMAC covered losses of $2.1 billion and $1.2 billion, respectively, due to the depreciation of value of its leased vehicles. When residual values decline, leasers are forced to increase the price of the lease. Hardest hit by the credit crunch in the leasing market were leasers of high-end vehicles, which depend on leasing for up to 70 percent of their business.

During 2008, the National Vehicle Leasing Association (NVLA) rallied the troops by declaring that leasing was not dead. The advocacy organization noted that leasing would weather the storm and find a place in the marketplace once again when the economy right sized. The NVLA noted that many consumers would not want to sign a 72-month loan to purchase a vehicle--which was becoming increasing necessary to keep monthly payments manageable. Compared to a six-year purchase agreement, many consumers, the NVLA argued, would opt for a shorter, three-year lease agreement.

Despite difficult times, there were some signs of hope by mid-2009. For example, General Motors reentered the leasing market in August 2009, although the leasing programs were limited to high-end vehicles such as the Cadillac CTS. In addition, by mid-2009, used car prices were beginning to firm up, which would push up the resale value of leased vehicles that hit the used car lots. Edmunds.com analyst Jesse Toprak told Automotive News in July 2009 to expect car leasing to rebound gradually through the end of the decade. "We'll never see the crazy numbers of the 1990s," he said. "But we could see a 20 percent rate in two years and beyond."

Industry Leaders

The largest vehicle leasing company in the United States and the world, Eden Prairie, Minnesota-based GE Capital Solutions Fleet Services (commonly known as GE Fleet Services) was founded in 1957 as the General Leasing Co. General Leasing, which changed its name to GELCO Corporation in 1972, acquired six other companies between 1968 and 1974, including Interstate Vehicle Management; the Interstate Fleet Corp.; Selig Leasing Co.; Lease Plan, Inc.; and the Valley Leasing Co. In 1987, the company was purchased by GE Credit Corporation, which formed GE Capital Fleet Services. In 1996, the company acquired JMJ Fleet Services and began offering fleet management services to corporate and governmental customers throughout Australia. In 2009, GE Fleet Services was a business unit of General Electric Company, which recorded total sales in 2008 of $182.5 billion. At that time, the company was responsible for approximately 1.6 million vehicles.

PHH Vehicle Management Services (known as PHH Arval), business unit of PHH Corp., was the second largest company in this industry in the United States, with a 2009 fleet of 625,000. PHH was founded in 1946 as Peterson, Howell & Heather, Business Consultants, with the intention of advising companies on fleet management. The business was incorporated in 1954 and moved into leasing with the industry's first finance lease program. In 1975, Peterson, Howell & Heather also became the first major leasing company to recommend compact cars to its clients.

The company became the PHH Group, Inc., in 1978. The fleet management division retained the name Peterson, Howell & Heather until 1986, when it became PHH Fleet America. PHH Fleet America also acquired the domestic operation of Avis Car Leasing, Inc., in 1986. In 1988, PHH Group became the PHH Corporation. In 1997, PHH was acquired by HFS, Inc. (predecessor to Cendant Corp.), and in 1999, it was sold to Avis Rent A Car. In 2001, Cendant bought Avis and reacquired PHH in the process, making it one of many subsidiaries, which it then spun off in 2006. PHH agreed to be acquired by General Electric in 2007, but the deal fell through in 2008.