August car sales, when announced next week, will be the highest for seven years – more than 500,000 cars are estimated to have rolled off dealer forecourts in the last month.
Over 20 per cent of those cars will have been bought using a personal contract purchase plan (PCP) – the finance schemes that manufacturers have invested millions of marketing pounds in, and which have been credited with reviving the fortunes of the retail car market.
But senior industry figures are starting to criticise the schemes openly for misleading consumers and, for the first time, are questioning whether the schemes have any future. Many now believe we are moving to a situation where car buying will become a thing of the past and leasing, the thing of the future. Which presents a new set of problems for car makers.
The launch of Vauxhall’s One-Over-Two scheme (MW August 23), a car hire package for its Vectra range, indicates that car makers are re-assessing their approach to auto-finance.
When David Flanigan, chairman of Ford’s finance subsidiary Ford Credit, said at the 2m launch of its Options finance scheme in 1992, “the way private motorists buy cars has changed forever,” he could not have anticipated how prophetic his words would be. After small-scale trials from 1985 onwards, PCP’s have hit the big time in the past four years.
Ford, Vauxhall and Volkswagen have their own guaranteed PCP schemes, and virtually all other manufacturers have plans underwritten by the likes of Lombard and Barclays.
Last year, PCPs were used in the purchase of 221,032 new cars. This year, they are expected to account for almost half of all new Ford and Rover sales to private buyers. They will have been used to buy more than 100,000 of the August total – and are seen by some as the saviour of the retail sector during the car industry recession.
But others disagree.
“Many PCPs have been sold with what could charitably be described as ‘enthusiastic naivety’,” says Derek Pridmore, marketing director of HSBC’s Swan National motor finance. “The industry is going to take some serious flak when the realities of many PCP contracts become clear. In five years time I don’t imagine that PCP schemes will still be operating.”
The appeal to buyers is simple. Financing a new car is much cheaper than conventional hire purchase because the amount financed is equivalent to the depreciation over a two or three-year period.
At the end of the two or threeyear contract, motorists can choose to pay the remainder and own the car outright, hand the car back and walk away, or use the difference between the Minimum Guaranteed Future Value (MGFV) – set by the manufacturer or dealer – and its real trade-in value toward a deposit on a replacement.
Not only do the reduced monthly payments increase demand for new cars among private motorists but, crucially for the makers, they also shorten replacement cycles. Ford customers usually replace their car every 39 to 42 months, but 98 per cent of buyers using the Options PCP come back after 24 months. Ford claims that approximately 70 per cent opt for a new Ford replacement.
“PCPs have been a slightly unethical aberration designed to hide the true costs of motoring,” says Denis Keenan, head of the newly established contract hire division of the Vardy dealer group, Vardy Contract Motoring. “The complexity and small print of PCPs is blackening the name of vehicle finance.
“Like the 50/50 house purchase schemes, which propped up the property market when it crashed, the PCP is an inherently flawed product because it embraces so many variables and uncertainties. The PCP has peaked and is now in decline.
“Manufacturers are trying to shorten the new car purchase cycle by fiddling the figures. They want people to think it’s possible to run a new car for 100 per month – but everyone in the trade knows you can’t,” says Keenan.
To reduce monthly payments to a bare minimum and hit trigger points with promises of “Just 99/149/199 per month”, over-zealous finance houses and poorly trained dealer sales staff squeeze the amount to be funded by demanding deposits as high as 50 per cent or setting a high MGFV.
Perceived benefits come to an abrupt halt at the end of the contract.
Having put a 3,000 deposit down, and paid 3,000 plus interest over the two-year contract, on a 10,000 car that holds an MGFV of 4,000, a consumer may be offered no more than 250 over the MGFV toward a replacement. The MGFV is the money outstanding to the manufacturer and is not the consumer’s to put toward a replacement.
Having little or no equity to put toward the deposit on a replacement vehicle will be familiar to many PCP users – victims of what is known as “equity burn”.
Equity burn has been compounded by scare stories such as the Privilege PCP offered for run-out versions of the old-generation Jaguar XJ6 saloons in 1994. This offered the opportunity for motorists to run an XJ6 for approximately 250 per month, but despite reminder letters, some customers remained blissfully unaware that their standing orders instructed their banks to pay the MGFV of 11,000 to 14,000 in full at the end of the contract.
However, some observers are starting to see PCPs as a stepping stone in the move from vehicle ownership to a “vehicle usership” culture, such as that in the US. PCP brand names such as Vauxhall’s Choices 1-2-3 or Ford’s Options emphasise buyer choice, but there is a consistent sub-text to them all: don’t assume you have to buy your car.
It will be the manufacturers who realise this early and invest in personal contract hire (PCH) schemes and the branding of the finance house, Ford Credit for instance, rather than the individual product, Options. Ford’s Acumen scheme is an early example of the shift to leasing.
“PCH schemes will need the marketing clout of one or more major manufacturers before they really take off, just like PCPs,” says Michael Dawson, managing director of BRS Vehicle Management, which handles the cars coming out of PCP schemes. “Fallout from bad PCP agreements will drive the growth of PCH. I expect that to start happening next year.”
A PCH scheme includes all the costs of motoring except fuel. There is a single monthly payment that is fixed for a specific period, when the motorist has no alternative but to hand back the vehicle. Simple, straightforward and easily understood, PCH will account for 10 to 12.5 per cent of the private new car market and 15 to 17 per cent of used car sales by the year 2000, estimates Keenan. Among the most enthusiastic early adopters, he claims, will be the victims of equity burn.
Others are more circumspect. “I see the growth of PCH as complementary to PCPs,” says David Rayner marketing director of Lombard Motor Finance, the motor division of the NatWest-owned Lombard Group.
Robert Kingdom, contract hire manager at Saab GB, says: “For the moment, there is a large resistance among British motorists to finance products which offer no chance of ownership. This is why PCPs remain popular. But the business community is leading a steady move away from the culture of vehicle ownership to usership, and our contract hire volumes have grown dramatically over the past twelve months.”
Yet a future where cars are not bought but “borrowed” creates fresh problems for the manufacturers. It will change the nature of the car maker/dealer relationship, lead to more cars in circulation when there is already over-supply and fundamentally alter the way the industry works. Flanigan’s comments could prove true – PCPs might have changed the way people buy cars because in future they won’t.